Give your love - well, your cash - to unloved stocks

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The New Year brings with it soon-to-be-forgotten resolutions, but here's one resolution that investors should strive to keep: Take analyst rankings with a large dose of caution.

The stocks that get all the analysts' kisses at the New Year's party often leave investors with nothing but regrets by the end of the year.

At least that's what money manager John Dorfman found in a series of annual articles for Bloomberg. Based on 11 years of study, he calculated that the top picks of analysts in the United States only managed to break even on average over the course of the next year. The wallflowers that analysts shunned actually climbed by about 6 per cent on average. (Mind you, neither group bested the S&P 500 index, which gained about 9 per cent annually over the same period.)

To be sure, the pattern isn't consistent from year to year. Some years the favoured stocks win the race. More often, though, they lag.

To find Canadian stocks the analysts love and hate, just head over to Globeinvestor.com. Start at the Markets section (in the dark grey menu), and then move on to the Indexes sub-section (in the light grey menu), which gets you to the indexes page.

A click on the "Complete Member Listings" link on the right hand side of the page that goes to the Index Quotes page, which is where the festivities can really begin.

Use "Option B: Index Members Stock Report," which provides information on each stock in the index selected. Choose the S&P/TSX composite as the index from the pull-down menu and click Go.

A big table of data on each stock in the S&P/TSX composite will appear. To find the analyst rankings, click on the "Estimate" tab along the top of the table and then click on "Recommendation" just below it. You'll arrive at a table showing the mean (or average) recommendation for each stock based on a numeric value between 1 (a strong buy) and 5 (a sell). You can then sort the table by clicking on the "Mean" link. That way you'll find the stocks that are most favoured by analysts at the top while their least favoured can be found at the end.

What counts is the consensus view and not just the infatuation, or disdain, of a solitary soul. As a result, you should focus on stocks that are followed by at least three analysts.

Before checking out this year's top and bottom stocks, it's useful to explore the lay of the land a bit. You should first be aware that analysts are generally a positive and optimistic bunch.

After all, rating a stock as a strong buy is generally appreciated by current investors and interesting to potential buyers. Everyone loves a good stock tip. On the other hand, a sell may annoy current shareholders and be of little interest to most other investors – short sellers excepted. As a result a tilt towards optimism is baked into the ratings.

The tendency is potentially accentuated by investment banking operations because it can be hard to sell shares, or bonds, of a company that your firm's analysts are panning.

Given these tendencies, you shouldn't be surprised to learn that 45 of the 254 stocks in the index are currently rated as strong buys. The worst rating – a sell – was dished out to Endeavour Silver (EDR) from a single lone analyst. The next lowest rated stock was a hold. That's 45 strong buys per sell.

To compensate, ratings should be put through something of a reverse utopian linguistic filter. Stocks that are rated as holds are better described as sells. Buys are really holds and strong buys are simply buys.

Let's crack open this year's top 10 lists of the most, and least, favoured stocks as shown in the accompanying tables. It lists each stock's mean rating along with the number of analysts (brokers) ratings that were used for the average. It also provides recent prices, price-to-earnings ratios, and price-to-book-value ratios for each stock for those interested in the fundamentals.

While most people might immediately be drawn to the favoured firms, Mr. Dorfman's experience suggests that it's wise to pay just as much attention to the unloved companies. Topping the list of unloved stocks is – no surprise – Research In Motion (RIM). Given the deep disdain with which most analysts view the smartphone maker, it would not take much good news to propel its shares higher.

On the favoured list, Toronto's Brookfield Asset Management (BAM.A) is one of the more interesting picks. The firm invests in commercial real estate, power, and infrastructure projects. Brookfield also happens to get the stamp of approval from several notable value investors such as Bruce Berkowitz's Fairholme and Martin Whitman's Third Avenue funds.

How will analysts' picks and pans fare in 2012? Based on the U.S. evidence, the unloved stocks may be the better bet.

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Analyst top picks

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Analyst top pans

Source: Globeinvestor.com

Source: Globeinvestor.com

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Special to The Globe and Mail