It took a special kind of incompetence to get to where we are today. After years of "producing" billions of dollars using sophisticated financial instruments, investment banks and nominal retail banks alike got crushed by the consequences of excessive leverage and convoluted investments.

Good thing we've stopped trusting our finances to what those bozos have to say.

Yeah, good thing
Then again, maybe we haven't completely. After all, we're still relying on analyst forecasts.

It's a well-documented fact that analyst earnings estimates tend to be wildly inaccurate -- off by some 40% on average, according to an extensive study by two Penn State professors. Then there's the herd mentality that figures into buy and sell recommendations.

In his book One Up on Wall Street, legendary former Fidelity Magellan fund manager Peter Lynch explains why so many Wall Street analysts copy one another, rather than risk their reputations on unusual opinions: "Success is one thing, but it's more important not to look bad if you fail."

See, as my colleagues Brian Richards and Tim Hanson revealed, the trouble with analyst price targets is:

1. You get no context.

2. The vast majority of stocks -- not surprisingly, for an industry that makes money by convincing you to buy stocks -- are considered "undervalued."

Really? The vast majority?
Yes. According to data I've collected using Capital IQ, an institutional software package, the Wall Street consensus is that fully 80% of S&P 500 companies are undervalued -- even after the recent run-up.

Consider these standouts:

Company

Recent Price

Consensus Target Price

Upside Potential

H&R Block (NYSE: HRB)

$12.59

$18.00

43%

Micron (Nasdaq: MU)

$8.54

$10.60

24%

MEMC Electronic Materials (NYSE: WFR)

$11.38

$13.60

19%

Gilead Sciences (GILD)

$37.53

$44.20

17%

Intuitive Surgical (Nasdaq: ISRG)

$273.63

$320.40

17%

Yes, there's a bull case to be made for each of these companies -- be it a cheap valuation, a strong position in NAND memory, the potential of solar energy to replace traditional power generation, a powerful drug franchise, and a lucrative patent moat, respectively.

But frankly, it's absurd to think that the vast majority of the S&P 500 -- an index that captures the most carefully scrutinized publicly traded companies -- would be undervalued.

Remember, many of these "buy" recommendations come from the same Wall Street firms that couldn't properly analyze their own businesses. And while that doesn't mean none of them employs very capable analysts, or that no stocks are undervalued today (many are), it does raise another problem with price targets:

3. You have no way of assessing the analyst's past record.

If all you have to go on is that someone at UBS says you should buy H&R Block how on earth are you supposed to estimate the quality of the analysis, much less decide whether you agree with that opinion?

You can't
That's one of the reasons we created Motley Fool CAPS, a 170,000-member database that ranks investors by how well their stock picks perform relative to the S&P 500. Those whose track record places them in the top 20% are the cream of the crop. We like to call them "All-Stars."

Here are three stocks trading at below-market average multiples that those expert investors love right now:

Company

All-Star Outperform /
Underperform Ratings

Forward Price-to-Earnings Multiple

Corning (NYSE: GLW)

937 / 13

10.6

Exelon (NYSE: EXC)

541 / 8

10.3

AmTrust Financial (Nasdaq: AFSI)

206 / 2

7.5

Sources: Birinyi Associates, Motley Fool CAPS, and Capital IQ, a division of Standard & Poor's. Forward multiple is based on next 12 months' earnings estimates.

Today, I'd like to give you more information about one of these names: AmTrust Financial, an insurance company that handles workers' compensation for small companies, extended warranty coverage, and middle-market property and casualty insurance.

As Motley Fool Pro advisor Jeff Fischer wrote in early 2009: "The company's competitive advantage is its focus on small commercial businesses — a low-risk and profitable segment, yet one that's underserved by larger carriers."

Jeff was particularly drawn to AmTrust's cheap price tag and strong business -- more than 80% of workers' comp and 90% of extended warranties customers renew their services.

While the stock is up 68%, beating the S&P by 15 percentage points, since Jeff recommended it, it remains one of his "Buy First" stocks. The CAPS experts who follow the stock agree with his bullish pick.

If you're interested in getting more of Jeff's ideas, simply enter your email address in the box below to get Jeff's "Options Edge" handbook and "5 PRO Strategies for 2011," two new free reports with techniques and strategic guidance for the year ahead. We'll also tell you more about Motley Fool Pro, Jeff's real-money portfolio service that seeks to generate income and absolute returns in any market. To get started, just enter your email in the box below.

This article was originally published May 26, 2009. It has been updated.

Ilan Moscovitz doesn't own shares of any companies mentioned. Activision Blizzard is a Motley Fool Stock Advisor recommendation. Johnson & Johnson and Republic Services are Motley Fool Income Investor recommendations. Motley Fool Options has recommended a synthetic long position on Activision Blizzard. Motley Fool Options has recommended a diagonal call position on Johnson & Johnson. The Fool owns shares of Activision Blizzard, and Johnson & Johnson. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.