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 ...
How do you not notice Microsoft (NASDAQ:MSFT)?

That's not just a rhetorical question. Yesterday, just after trading closed in New York, Deutsche Bank initiated coverage of Microsoft with a buy rating. Yes, you read that right. Up until about 5 p.m. EST, Sept. 5, 2007, Deutsche had apparently thought Microsoft too low-profile to merit coverage -- at least since 2003. Talk about your "Old Europe" chauvinism!

What finally got Deutsche's attention? It was actually a confluence of several factors. At the base of it all, Deutsche observed that Microsoft's core Windows and Office software units are profitable -- which, if I may editorialize, may win the prize for understatement of the year. The Germans also think Mr. Softy's Entertainment and Devices division, currently losing money, "is poised to improve." Finally, Deutsche argues that problems at MSN "are solvable" and that once they're solved, the division can better compete against Google (NASDAQ:GOOG) and Yahoo! (NASDAQ:YHOO).

Are you convinced yet? No? Then let's examine Deutsche's record for accuracy in reporting ... the future. Just how good are these Teutonic bankers, anyway?

Not very
Reviewing the firm's record on CAPS is a decidedly sobering experience. As logically as Deutsche lays out its arguments, the firm simply lacks a history of translating logical arguments into concrete market outperformance. While its CAPS rating is above average at 81.24, Deutsche falls far short of the rank "Wall Street's Best." Moreover, it gets fewer than half its calls right -- it gets just a 48% for accuracy. Its record of tech-sector gaffes includes:

Why is Deutsche so often wrong with its recommendations? Perhaps it's an overabundance of optimism. You see, Deutsche appears to believe that the majority of the stocks it tracks are listed on the LWSX -- the Lake Wobegone Stock Exchange, where every stock is above average and destined to outperform the market. Out of 392 active Deutsche picks that we track on CAPS, fully 371, or 95%, are outperform calls.

Getting back to Microsoft
Based on its record, I can say with some assurance that the average investor has little need to heed Deutsche's opinion on Microsoft. These Germans aren't good enough to be worth listening to, nor quite bad enough to fill the role of contrarian indicator. They should instead be simply ignored.

What you won't want to ignore, however, is the price tag currently affixed to Microsoft's stock. Expected to grow its earnings at less than 12% per year over the next five years, the stock trades for 20 times trailing earnings and only a slightly cheaper multiple to free cash flow of 17. In my book, that's too pricey. In short, I disagree with Deutsche on this one.

Caveat investor
That said, I'd be remiss if I failed to point out that over at the Fool's deep-value-prospecting newsletter service, Motley Fool Inside Value, Philip Durell and company disagree with me on this one. They recommended Microsoft back in December 2005.

What do the folks at Inside Value see in Microsoft that I don't? Find out when you open a 30-day trial membership to the service, absolutely free.