This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." So you might think we'd be the last people to give virtual ink to such "news." And we would be -- if that were all we were doing.

But in "This Just In," we don't simply tell you what the analysts said. We'll also show you whether they know what they're talking about. To help, we've enlisted Motley Fool CAPS, our tool for rating stocks and analysts alike. With CAPS, we'll be tracking the long-term performance of Wall Street's best and brightest -- and its worst and sorriest, too.

And speaking of the best ...
Investment banker Citigroup installed a new foundation under the crumbling homebuilder stocks this morning, by upgrading Centex (NYSE: CTX), DR Horton (NYSE: DHI), Lennar (NYSE: LEN), Pulte (NYSE: PHM), and Ryland (NYSE: RYL) from "hold" to "buy" -- but pulling down MDC Holdings (NYSE: MDC) and Meritage (NYSE: MTH) from "buy" to "hold." The funny thing is that the sector has had so much bad news, for so long, that investors seem to be taking even a "hold" rating as good news these days -- every single stock on the list, including the two downgrades, is up today! (Then again, so is every other stock in the market.)

Little wonder, considering the quality of the analyst behind the ratings. With a 92.27 CAPS rating and a record of nearly 54% accuracy on its picks, Citi is one of the best in the business. But before concluding that the bear market in housing -- and housing stocks -- is ended, you need to consider two caveats.

Caveat No. 1
This one comes directly from the horse's mouth. Citi went to great pains to emphasize that it was not "calling a bottom" on housing here. To the contrary, the banker warned: "The woes in the U.S. housing sector have been extensively documented, and we do not pretend that any near-term relief in industry fundamentals is in sight." That said, Citi doesn't "expect any of the builders to move much lower over the near term" and opined that "it is precisely when things have gotten this bad that the stocks start looking good."

Caveat No. 2
Here I need to point out a flaw in our beloved CAPS system: With CAPS being barely a year old, it does not yet incorporate a single historical call on a housing stock from Citi. Drilling down to the historical information housed at our data provider, Briefing.com, we learn that Citi made most of its bullish pronouncements on housing stocks in early to mid-2005 (which predates CAPS), when Citi was telling investors to buy every housing stock they could find. It was not until July 2007 that Citi became more cautious and downgraded the stocks from "buy" to "hold" -- the rating they carried, by and large, until today.

And how did the stocks perform during Citi's last bullish phase? A couple of examples may be instructive: Between the time Citi upgraded Pulte to a buy on June 17, 2005, and when it downgraded it to a hold on July 2, 2007, the stock lost 47% of its value. Ryland, upgraded and downgraded on the same respective dates, lost 50% of its value -- and the results for the other stocks show similarly depressing numbers.

Now, this doesn't mean Citi is wrong in upgrading most housing stocks today. (Indeed, the banker qualified its opinion, and it hedged its bets so carefully in making the call that I'd venture to say it couldn't be called "wrong" no matter how it ultimately rated the stocks.) But it does suggest that investors should think long and hard before treating this particular batch of upgrades as a green light to venture back into the housing sector.