What does a hold rating mean?

Posted on Tuesday, June 4th, 2019 MarketBeat Staff

Summary - The hold rating (or hold recommendation) is one of the most confusing ratings that can be issued by a stock analyst. The confusion exists for a number of reasons. First, unlike a buy or sell rating, the hold rating can mean something different for different firms. Here are just a few examples:

According to Stifel Nicolaus, a hold rating means “a stock is expected to perform generally in line with the S&P 500 over the next 12-18 months and is potentially a source of funds for investor clients.” In fact, Stifel Nicolaus does not actually use the term “Hold Rating” and instead uses the term “Market Perform”.

Another firm, Jefferies & Co. defines a hold rating as follows: “Expected to change plus or minus 10%. Stock’s total return is expected to be in line with the average total return of the analyst’s industry coverage universe, on a risk-adjusted basis, over the next 12 months.”

The analyst firm Baird defines a hold rating in these terms: “Expected to perform in line with the broader U.S. equity market over the next 12 months.”

And another example from Wells Fargo defines a hold rating as follows: “Holding the stock is recommended. The stock has moved out of preferred buying range, but there is further upside to share price or stated objectives at the time of purchase have changed, and share appreciation may take another 6-12 months.”

Some institutional investors are skeptical of the hold rating because they view it as a wishy-washy sell signal. After all, if an analyst is suggesting an asset’s price is supposed to stay at approximately the same price, there is logic to suggest that shareholder’s should sell and find a better way to allocate capital. On the other hand, if an analyst is suggesting that the asset may continue to grow but just not as much as it has in previous quarters (or years) than there are some analysts that would argue the stock should still receive a “buy” rating.

Further complicating matters is that analysts rely on access to corporate insiders for information about the company. Giving a stock a hold rating, as opposed to a sell rating, may help them avoid drawing criticism, fair or not, from the executives within a company with whom they rely on for the insights that help refine their analysis.   

Introduction

When analysts’ ratings first became a closely watched indicator for investors, there were three ratings: ”Buy”, “Hold”, or “Sell”. But not long after these ratings came out, investors began to question exactly what a “Hold” rating meant. If you go to an ice cream parlor and can choose chocolate, vanilla, or swirl, you know that choosing swirl will give you a 50/50 blend of both flavors. But a hold rating is not as simple. In some cases, a hold rating is given to a stock, even though it is expected to grow – albeit the rate of growth may be slower. In other cases, a hold rating suggests the stock is expected to start to grow after a period of declining. And in other cases, a hold rating means that a stock is declining while others in its sector are growing. In this last case, a hold rating may simply be an analysts’ way of avoiding criticism from sources inside the company that a sell rating might invoke.

This is also why, just as ice cream parlors have moved beyond the basic chocolate, vanilla, and swirl, analysts have come up with additional rating labels that help provide more context for investors. In many cases, they have done away with the “hold” rating altogether.  In this article, we’ll take a closer look at the hold rating and show why at times it can represent a buying opportunity, while at other times it can clearly be a selling opportunity.

What does a hold rating mean?

One of the most important things investors need to understand about a hold rating is that it can mean something different depending on the analyst and their firm. Since no security will stay at a constant price, a hold rating is used to indicate a company’s price targets more than to provide a trading signal. For example, in some cases, an analyst for a mutual fund or ETF may base their ratings off a stock’s performance against an index, such as the Standard and Poor’s 500 (S&P 500) Index. When this is the case, a hold rating may mean that the index is expected to stay in a very tight range from current levels and a particular stock is expected to track very closely to the index. In this case, an analyst is not encouraging investors who do not already own the security to buy it, but they are likewise not telling investors who already the stock to sell it. If the stock had been previously rated a buy, this may mean that the stock is expected to have a lower price target in the next quarter. Likewise, if a stock was upgraded from sell to hold, it probably means the company is expecting a higher price target – but perhaps not high enough for an analyst to feel comfortable issuing a buy rating.

One way for investors to help interpret what is meant by a hold rating is to look at what the analyst consensus rating is. Any individual stock may be given a rating from dozens of analysts. Like anything that is measured by a “consensus”, there are bound to be outliers. In some cases, two or three hold ratings are the outliers. In other cases, a hold rating is more in line with the analyst’s consensus.

Because a hold rating can have an ambiguous meaning, many analysts’ firms have started to use other terms such as “neutral” or “market perform” to provide investors with a little more clarity about the meaning of a particular rating.

Why do many investors distrust the hold rating?

Whatever term is used by an analyst, it is important for investors to understand that an analyst rating is only as good as the analyst themselves. Although the analyst is trying to provide a prediction about what may happen with a stock in the future, they are basing their rating on information that has yet to occur. Analyst’s ratings are frequently wrong – either too positive or too negative – based on information that changes. This is one reason that investors, particularly hedge funds and other institutional investors, cast scrutiny on a hold rating. In many cases, a hold rating is a non-committal way for analysts to rate a company when they are unsure about the direction of the stock. Rather than commit themselves to a buy or sell position, they stake out a middle ground with a hold rating that can be either, and sometimes alternately, positive or negative.

When can a hold rating present a buying opportunity?

Most analysts’ ratings are issued four times a year during corporate earnings season. Many analysts cover the same stock(s) for the entire year. If a stock that had an “underperform” or “sell” rating in a previous quarter receives a “hold” or “market perform” rating, it may signal interest from investors who have viewed the stock as being oversold. In this case, the analyst’s rating serves as a trigger of sorts.

When can a hold rating present a selling opportunity?

In the same way that an analyst’s upgrade may spur buying opportunities, it can also fuel selling interest. When an analyst downgrades a stock from a buy or outperform rating to hold or market perform, investors who currently own the stock should pay close attention to the analyst’s report. In some cases, the reason for the downgrade is simply that the stock’s rate of growth will be less than what it had been in prior quarters. Perhaps instead of being forecast to outperform the market by growing at around 10% per year, the stock is only forecasted to grow at 2-3 percent per year. However, in some cases, a hold rating is a way for an analyst to signal concern about a stock without drawing criticism from their contacts within a company. In this case, a hold rating may be an opportunity to take profit and wait for another buying opportunity.

What can affect an analysts’ rating?

Analysts frequently use fundamental analysis to determine their ratings. For example, they will closely analyze a company’s balance sheet for things like revenue forecasts, debt levels, return on equity, net margin, and other metrics. They will also listen to the conference call that a company may organize after they release their earnings report. If a company is anticipating not hitting their anticipated target, even if they still are showing a respectable profit, it may cause an analyst to issue a downgrade. Likewise, if the company issues a positive outlook for earnings, it can be a signal to analysts that the stock is now a buying opportunity.

Analysts also pay attention to macroeconomic and geopolitical events to forecast price movement. For example, if a company is directly affected by a trade war, it may have either a positive or negative outlook depending on which side of the dispute they are on. Likewise, utility stocks, such as oil and gas companies, may be upgraded or downgraded based on the likelihood of a hurricane disrupting production and distribution. Election cycles are also a time that introduces volatility into stock prices and stock ratings because of the way politics assigns winners and losers. When an incumbent party is expected to do well, the companies and industries that are closely tied to that party’s policies will tend to grow. Likewise, if the opposition party is expected to do well, it can make analysts rethink previously held positions. In the United States, this is present during the midterm elections that have typically been a volatile time for incumbent parties.

A company’s credit rating is also an important factor in how an analyst determines its rating. During the financial crisis of 2007, many companies many major banks faced a liquidity crisis that tightened lending standards and caused some companies who had previously had a stellar credit rating to be downgraded.

The bottom line on a Hold rating

An analyst’s rating can cause stocks to move in a big direction, particularly when a rating moves up or down. However, a hold rating can create mixed trading signals – in some cases being a buy signal, in others a sell.

What becomes clear is that a hold rating can be ambiguous. However, stocks will continue to move even after an analyst’s rating. For investors to get a clear interpretation of whether a hold rating is a bullish or a bearish signal will depend on their own research.

As a way of helping to combat the ambiguity surrounding the hold rating, some analysts are moving away from the Hold rating to more descriptive terms such as “market perform” or “peer perform”. This gives investors a better sense of the context. For example, in the case of market perform, a stock that receives a hold rating may be presumed by an analyst to closely track an index for that stock. A peer perform may mean that the stock is expected to perform near the average among its peers, defined as market capitalization, sector, or other metrics.

 

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