Monetta Investment Guideline: Don’t Set Price Targets

By Robert Bacarella

During the dot-com turmoil of 2001, New York Times reporter Gretchen Morgenson wrote a powerful article titled “Price Targets are Hazardous to Investors’ Health.”[1] Morgenson won a Pulitzer Prize for that article and others in which she dug into highly questionable assumptions and practices in the investment industry.

It seems obvious in retrospect that high-flying price targets in the heady days of the dot-com era contributed to investors losing their minds—and their money. But that period of intense irrational exuberance is now 20 years behind us. Are price targets still hazardous to investors’ health?

Our answer is yes. We believe price targets should be ignored. Here’s why.

The academic view

A 2012 study by researchers at Boston College and the University of Waterloo took a close look at the accuracy of analyst price targets around the world.[2] Here are three key ideas from their findings:

  • “[T]he overall forecast accuracy of target prices is not high, averaging around 18% for the horizon of three months and 30% for the horizon of 12 months.”
  • “[T]arget price accuracy is negatively related to target price level but positively related to target price revision.”
  • “Unlike target price levels, revisions in target price are unlikely to be subject to conflicts of interest.”

These academic findings match up with our practical experience over many years. Eighteen percent short-term accuracy is unhelpful from the perspective of making investment decisions. Even 30% accuracy over 12 months is far less certainty than provided by, say, weather forecasts.

And while weather forecasts are usually good enough to know whether or not to pack an umbrella when you leave your house, everyone understands to take them with a grain of salt. (Or a bag of ice melt.)

The researchers at Boston College and the University of Waterloo focused on sell-side analyst price forecasts—which can clearly be vulnerable to conflicts of interest, such as the classic one of a brokerage firm wanting to preserve the potential for investment banking business with a corporate client. In our view, buy-side analysts are similarly challenged. Even without any conflicts of interest, and even with insightful fundamental analysis and modeling, there’s just too much uncertainty about the future.

Both stock-price and weather forecasting involve a combination of computer models, observations, assumptions and knowledge of trends and patterns. Even as researchers harness vast quantities of data, they still can’t cover all the variables that impact either the weather or a stock price.

An empirical example

Following is an analysis of Netflix, Inc. analyst price targets at the following dates:

 Analyst Average Price TargetAnalyst Price RangeClosing Stock PriceExpected Investment Return*Stock Return
12/31/16$125.22$60 to $157$123.80-1.1%+8.2%(1)
12/31/17$216.02$80 to $270$191.96+12.5%+55.0%(2)
3/12/18$274.15$132 to $400$320.00-16.7%+66.7%(3)

Source: FactSet Research Systems Inc.

Past performance does not guarantee future results.

*Based on Average Price Target to closing stock price on respective dates.

(1)
1-Year ending 12/31/16
(2) 1-Year ending 12/31/17
(3) Period 12/31/17 to 3/12/18

The hypothetical example is for illustrative purposes only, does not represent the returns of any particular investment, and should not be considered a recommendation to buy or sell any security.

If an investment decision had been based solely on applied investment returns (as calculated from price targets), many investors would have considered the stock too expensive to purchase. They would have missed the move from $123 to $320—a 160% increase.

As also expressed in the Boston College / University of Waterloo study, we believe that a more reliable indicator in predicting future returns is the direction of price target revisions rather than an actual price target. For example, reviewing the top 20 analysts’ price target revisions over the same three periods demonstrated a high portion of analysts raising their respective price targets to higher levels.

FundsTicker1Yr3Yr5Yr10YrLifeInception Date
Monetta Young Investor FundMYIFX15.28%10.28%12.72%13.22%11.12%12/12/2006
S&P 500® Index13.99%10.78%13.31%9.49%7.98

Source: FactSet Research Systems Inc.

Past performance does not guarantee future results.

In our view, these positive revisions can be useful as reflections of analysts’ increasing confidence in management’s ability to meet or exceed expectations.

Bottom line

At Monetta, we don’t set price targets on the upside. Who’s to say how much a company could grow?—or whether the analysts growth assumptions will materialize.

We also don’t set price targets on the downside. We believe the best reason for selling a stock is when it stops going up, or worse, starts going down through key technical levels.

 

[1] Morgenson, Gretchen. “Price Targets are Hazardous to Investors’ Health,” New York Times, August 5, 2001.
[2] Bradshaw, Mark, Alan Huang and Hongpin Tan, “Analyst Target Prices and Forecast Accuracy around the World,” Boston College and University of Waterloo, April 2012.


Past performance does not guarantee future results.

All investments, including those in mutual funds, have risks and principal loss is possible.

The Funds’ investment objectives, risks, charges and expenses must be considered carefully before investing. The summary and statutory prospectuses contains this and other important information about the investment company, and may be obtained by calling 1-866-964-4683, or visiting www.monetta.com. Read it carefully before investing.

As of 12/31/2017, Netflix, Inc. was not owned by the Funds. Fund holdings are subject to change and are not recommendations to buy or sell any security. Current and future portfolio holdings are subject to risk.

Opinions expressed are subject to change at any time, are not guaranteed, and should not be considered investment advice.

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