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How are stock ratings used?

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Quick Answer

Stock ratings are tools used by investors of all kinds when making portfolio decisions. Issued by experienced analysts, stock ratings are typically divided into three different types: buy, sell and hold ratings.

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Full Answer

Each stock rating efficiently summarizes the tremendous effort that goes into analyzing a stock and forecasting its future performance. While useful, stock ratings represent subjective, personal opinions. Furthermore, ratings reflect analysts' notions about acceptable levels of risk, notions that might not suit every investor. Therefore, stock ratings are most useful when used together with other tools for making portfolio decisions.

When developing a rating for a stock, an analyst reviews two types of risk. A specific risk is a risk factor unique to the company in question; unproven corporate investments, lawsuits and strikes are specific risks. Market risk is risk associated with overall market trends. Natural disasters, recessions, political upheavals and terrorist attacks create market risk. Even the wisest analysts can't always predict global events and trends that can cause stocks to lose value.

Though most stock analysts are honest, some unethical analysts do issue ratings that do not reflect reasoned analysis. In these cases, ratings are twisted from informational tools into forms of dishonest advertising. This is one reason why sensible investors use stock ratings in tandem with personal judgement.

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