Hot Stock Tip: Listen to Analysts, Then Do the Opposite

Do you check investment analysts’ “buy” ratings before you invest in stocks? If so, chances are your portfolio would have performed better in 2010 if you checked those recommendations … and then did just the opposite.

According to a report by financial-news provider Bloomberg, the share prices of companies in the Standard & Poor’s 500-stock index that were most-loved by investment analysts rose an average of 73% since the index started to recover in March 2009. Sounds good? S&P 500 companies with the fewest “buy” recommendations gained a whopping 165%, the data showed.

In fact, the Bloomberg report found that if investors approached “buy” ratings as contrary indicators -- meaning, you use their recommendations to tell you what not to do -- you would have fared much better last year. S&P 500 companies with the most “buy” ratings gained 8.7% in 2010, while the ones with the fewest jumped 20%, the data show.

Don Wordell, a fund manager at RidgeWorth Capital Management Inc. in Atlanta, told Bloomberg that the stocks Wall Street firms rated lowest are more likely to beat the market. “When you have a stock that has 15 analysts covering it and it has 15 ‘buys,’ I can’t imagine it has much outperformance left,” said Wordell, whose $1.64 billion RidgeWorth Mid-Cap Value Equity Fund topped 98% of peers in the past five years, according to Bloomberg. “You’ve got a stock that has 15 ‘sells’ on it, you’re set up there to have some strong outperformance.”

Analysts’ bad calls in 2010 weren’t restricted to just individual equities -- last year, analysts made the wrong recommendations on entire industries. The health-care and technology sectors were supposed to be the big winners in 2010, while both posted some of the smallest gains of the 10 industries in the S&P 500, according to Bloomberg. The industries least-loved by analysts -- banking and real estate -- rose 19% and 28%, respectively, Bloomberg said.

Many analysts covering the healthcare industry made bad calls for 2010 due to bets that the federal government would fail to pass Healthcare Reform, Tony Butler, a New York-based pharmaceutical analyst for Barclays PLC, told Bloomberg. Instead, the Obama administration health-care policy was signed into law on March 23, imposing fees on pharmaceutical companies and mandating health-insurance coverage. Pfizer Inc. (NYSE: PFE), the largest U.S. drug maker, ended 2010 down 3.7% in 2010, while Merck & Co. Inc. (NYSE: MRK), the second-largest, finished the year down 1.4%.

To see which analysts picks fared the worst in other sectors, and why, read the Bloomberg report here.