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 ...
As President Obama and his administration prepare to lay waste the medical industry as we know it, remaking it in his image, RBC Capital Markets initiated coverage on a vast range of medical device and drug makers this morning. No clue whether the former event influenced the latter, but one thing's for certain: Changes in legislation are going to affect whether these RBC Capital Markets picks have a chance to prosper as the banker predicts. Without further ado, the ...

Buys:

  • Abbott Labs (NYSE: ABT  )
  • Boston Scientific (NYSE: BSX  )
  • St. Jude Medical
  • Baxter International
  • Edward Lifesciences
  • ATS Medical

The holds:

  • Johnson & Johnson (NYSE: JNJ  )
  • Medtronic (NYSE: MDT  )
  • Alphatec
  • Covidien
  • Greatbatch
  • Nuvasive
  • Zimmer Holdings
  • Zoll Medical

And the solitary sell? That would be Stryker (NYSE: SYK  ) . Why does RBC Capital Markets love Abbott (its designated "top pick" of the bunch)? Why does it hate Stryker?

We're not exactly sure. Perhaps overwhelmed by the sheer number of opinions to which RBC Capital Markets gave voice this morning, none of the major news outlets have yet explained the reasoning for any of them. All we know at this point is that they happened. But is that reason enough for you to follow RBC Capital Markets' lead?

Let's go to the tape
Whether you choose to buy what RBC Capital Markets advises buying, or sell what it tells you to dump, it all may boil down to just how good of an analyst you think it is. Here at Motley Fool CAPS, we're of the opinion that RBC Capital Markets is one of the good 'uns -- or at least, better than average. More than two years of tracking the banker's comings and goings on the ratings scene have shown us that, on average, RBC Capital Markets outperforms nearly 90% of the investing universe.

However, it accomplishes this feat not by being always right -- in fact, the analyst is statistically as good as a coin toss on any given pick -- but by picking its quarry with care, ensuring that the profits from its winners outweigh the losses from its losers. Like so:

 

RBC Says:

CAPS Says:

RBC's Pick Beating (Lagging) S&P By:

Gilead Sciences  (Nasdaq: GILD  )

Outperform

****

89 points

Genentech  (NYSE: DNA  )

Outperform

****

52 points

Medical Properties Trust 

Outperform

****

(24 points)

Angiotech Pharmaceuticals 

Outperform

***

(45 points)

And yet ...
I have to tell you, folks, that if playing the odds and betting on stocks with great upside is RBC Capital Markets' game, I'm not so sure this banker made the right move today. Take its top pick. The consensus of Wall Street analysts is that Abbott Labs will post 11.5% profit growth over the next five years. Yet the stock sells for a rather high 17 P/E, and an enterprise value-to-free cash flow ratio of 14.5. Neither of those numbers exactly screams "value" to me.

Crunching the numbers
In contrast, RBC Capital Markets' sole pan of the day -- Stryker -- carries only a 13 P/E and a 13 enterprise value-to-free cash flow ratio. That's weighed against growth estimates averaging out at more than 16% per year over the next half-decade. Moreover, whereas Abbott Labs carries a hefty slug of debt in our recession ($6.5 billion more debt than cash), Stryker is traveling light. Fact is, the orthopedic implant specialist has essentially no long-term debt, while its account is flush with $2.2 billion in cash and short-term investments.

Foolish takeaway
So what's my take on today's ratings? Sorry, RBC Capital Markets, but you got these ratings upside down. Abbott Labs may be the safe bet in this economy, but Stryker should be at the top of its list of long-term buys. And I think that's just where it's going -- to the top.

Johnson & Johnson is a Motley Fool Income Investor selection. Stryker and Covidien are Inside Value picks. The Fool owns shares of Stryker.

Fool contributor Rich Smith does not own shares of any company named above. You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he was recently ranked No. 644 out of more than 125,000 members. The Fool has a disclosure policy.


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