In the March quarter, the most popular stocks performed the worst, failing to beat the benchmark; whereas neutral to moderately popular stocks delivered the second best return
A right kind of investor will take added satisfaction from the thought that his operations are exactly opposite from those of the crowd. —Benjamin Graham in The Intelligent Investor
If you are a contrarian investor investing in relatively less popular stocks, you might be better positioned than others in the market.
A study by Motilal Oswal highlights that over a longer term, neutral to moderately popular stocks deliver significant returns, even outperforming the most popular stocks.
Performance of 'less popular' stocks
In the March quarter, the most popular stocks performed the worst, failing to beat the benchmark; whereas neutral to moderately popular stocks delivered the second best return, the study said.
Also, over the long term, out-of-favour low P/E stocks delivered disproportionate returns, significantly beating the benchmark. In this quarter, the low P/E stocks performed the best, whereas high-PE stocks came in third.
Motilal Oswal, using Bloomberg's data on analyst recommendations on each stock, divided BSE-100 companies into five groups of 20 stocks: Quintile-1 (Q1), Quintile-2 (Q2), Quintile-3 (Q3), Quintile-4 (Q4) and Quintile-5 (Q5), with Q1 composed of the most popular stocks and so on.
The popularity was decided by assigning consensus rating based on the analyst recommendations. It assigned 5 points for every buy recommendation, 3 points for every hold recommendation and 1 point for every sell recommendation. A consensus rating was arrived at by taking the average of these scores.
The March quarter was characterized by the impressive performance of the value quintiles (low P/E, low PCF delivered the best returns, whereas low PB came in second).
The study showed that following a simple strategy of investing in Quintile-4 or neutral to moderately popular stocks could generate significant alpha over the benchmark.
Motilal Oswal, after analysing data from above-mentioned study and studies from the past, highlights its top contrarian buy and sell picks.
Why do low consensus rated stocks outperform?
The quintile composed of stocks that have low consensus ratings/popularity (Quintile-4) outperform all the other quintiles, even bettering the performance of the most popular stocks.
This is because the investment thesis of the most popular stocks is quite popular, making them more likely to be discussed in the market. And, hence, there are fewer marginal buyers with time, said the Motilal Oswal report.
On the other hand, neutral to moderately popular stocks are usually neglected by the street and their drivers are evolving, it said.
And, as the drivers evolve, there is a sudden surge in investor interest in such stocks, leading to a spike in returns. Thus, the stocks that were previously neglected by investors deliver significant outperformance.
However, the least popular stocks underperform. “This is because the least popular stocks have a lot of sell recommendations. Sell recommendations are not popular on the street, and only about 14 percent of recommendations are 'sell' as against 64 percent 'buy' and 22 percent 'hold'. So, they have scarcity value and are more likely to be acted on,” explained the Motilal Oswal note.Disclaimer: The views and investment tips expressed by investment expert on moneycontrol.com are his own and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.