Analyst ratings are meant to give investors a pulse on the potential future performance of a stock. Instead of combing through research and data points for hours, investors can get a one-verb takeaway on a stock: buy, hold or sell.
But what do these ratings really mean? How do investment analysts evaluate a stock, and — perhaps most importantly — are analysts’ ratings even worth considering?
Here’s everything you need to know.
Understanding analyst ratings
An analyst rating is a recommendation from an investment professional on whether investors should buy, sell or hold a particular stock. Here’s what each rating means:
- Buy: Analyst believes that the stock is a good investment and is likely to outperform the market.
- Sell: Analyst believes the stock is a bad investment and is likely to underperform the market.
- Hold: Analyst takes a neutral position on the stock, neither recommending to buy nor sell. In other words, investors who already own the stock may want to hold onto it, but those who don’t shouldn’t necessarily buy it. The stock is generally expected to perform in line with the market or at a similar pace as competitors.
Some analysts use more nuanced terms, such as “outperform” and “underperform.” These are similar to buy and sell, but they’re usually more specific. For example, an “outperform” rating generally means that the analyst believes the stock will outperform the market or sector by a particular margin.
Who are the analysts who issue ratings?
Analysts work for investment banks, brokerage firms and other financial institutions. They spend their days researching companies and sectors by analyzing earnings reports, attending company executives’ conference calls and poring over industry research to inform their decisions.
After completing their research, analysts usually assign a rating (buy, sell, hold) and a 12-month price target. Then, they publish detailed research reports, including predictions for future earnings per share and revenue. Most analysts issue their ratings quarterly.
FINRA regulations
The Financial Industry Regulatory Authority (FINRA), a self-regulatory organization that oversees the U.S. securities market, has rules in place that govern how analysts can issue ratings.
These rules help keep analyst ratings fair and transparent by requiring members to manage conflicts of interest, ensure the reliability of research reports, disclose relevant information and review third-party research.
The agency fines firms that don’t play by the rules. In 2022, Morgan Stanley was fined $325,000 for publishing 11,000 stock research reports that contained price charts with stock ratings from the wrong year.
What is an upgrade?
An upgrade is when an analyst changes their rating on a stock from a lower rating to a higher rating. For example, an analyst might upgrade a stock from a “hold” to a “buy.”
Upgrades are generally positive news for the stock and its shareholders. It’s a signal that the analyst believes the stock is becoming more attractive.
Investors who already own the stock may benefit from short-term price increases after the upgrade, giving them the opportunity to sell at a higher price if they’re less bullish than the analyst.
What is a downgrade?
A downgrade is when an analyst changes their rating on a stock from a higher rating to a lower rating. For example, an analyst might downgrade a stock from a “buy” to a “hold” or a “hold” to a “sell.” Occasionally, an analyst might double-downgrade a stock, changing their rating from a “buy” to a “sell.”
Downgrades are generally perceived as negative news. A stock’s price often takes a hit after a downgrade, especially if a number of analysts develop a sudden, bearish consensus.
But a stock downgrade isn’t necessarily a death sentence. Analyst predictions, based on past data and trends, may become outdated as new information emerges.
Why analysts change their ratings
Analysts change their ratings for a number of reasons. Some of the most common include:
- Financial results: Analysts may upgrade a stock if a company reports stronger-than-expected earnings, revenue growth or profit margins. Conversely, a downgrade might follow weaker-than-expected results. In June 2024, for example, at least five analysts downgraded Nike shares after the company missed fourth-quarter sales estimates and lowered its revenue guidance.
- Price-to-earnings ratio (P/E): Analysts often compare a company’s stock price to its earnings to determine whether it’s overvalued or undervalued. A lower P/E ratio relative to similar companies may cause an analyst to upgrade a stock due to its favorable valuation.
- Changes in the industry: Changes in a company’s competitive position — such as increased market share or the emergence of new competitors — can influence analyst ratings.
- Changes in the overall economy: Analysts consider the overall economic environment and its impact on specific industries. For example, rising interest rates might lead some analysts to downgrade shaky homebuilder stocks.
Where do you find stock analyst ratings?
Many financial news websites offer free access to analyst ratings. But for more comprehensive research and real-time updates, you may need to subscribe to a premium service or open an account with a brokerage firm.
Full-service brokers like Charles Schwab and Fidelity offer stock ratings and insight from their own analysts, as well as ratings from third-party sources.
Independent analysts who aren’t associated with a specific brokerage firm also publish ratings. This research is often available online, and some of it is free, though some sources may require a subscription or fee.
Websites such as TipRanks aggregate analyst ratings. These centralized platforms help you compare ratings from multiple sources, giving a quick general sense of market sentiment toward a particular stock.
Should you pay attention to stock upgrades and downgrades?
While analyst ratings can provide insights, investors should approach them with a critical eye. The dynamic nature of the stock market often outpaces analysts’ ratings.
That’s why it’s essential to conduct your own due diligence and not solely rely on analyst predictions. Make sure to understand important financial ratios, including price per share and earnings per share. Dive into a company’s financial statements, business model and industry trends. You’ll be better equipped to make informed decisions if you understand key metrics and stay on top of company developments yourself.
And don’t get too caught up in the hype. If an analyst suddenly changes their recommendation, it can send a stock price soaring or plummeting. But that doesn’t always mean you should follow an analyst’s lead.
There’s also no universal rating scale. One firm’s “buy” might be another’s “hold.” It’s worthwhile to figure out what each rating really means from the company and analyst providing the recommendation.
So, use analyst ratings as a starting point, not a definitive guide. Do your own research, consider your risk tolerance and invest wisely.
Bottom line
Stock upgrades and downgrades are one factor investors often consider when evaluating a stock. But a firm’s buy or sell signal shouldn’t be the only thing driving your investment decisions. Use multiple sources of information and conduct your own research so you can buy, hold and sell with confidence.
