Stock downgrades refer to the reduced prospect of stock gaining returns in the market. Downgrades are announced by brokers or influential analysts who move their perception of stock from buy to hold, buy to sell, or hold to sell. It acts differently from a stock upgrade that views a stock’s chances of gaining higher market returns.
Meaning of stock upgrade and downgrade
An analyst’s rating on a stock has been upgraded from sell to hold or hold to buy, indicating that they are more confident about the stock’s prospects. In the short term, an upgrade tends to boost stock values. That’s presumably because the analyst providing the upgrade has a large number of clients who all want to acquire the stock because of the analyst’s advice; the greater demand for shares raises the price.
If an investor has an upgraded stock, the upgrade can provide a short-term gain as well as the opportunity to sell the stock at a higher price if they aren’t as positive about its long-term potential as the analyst is. An upgrade can make it more expensive to start a position for investors who don’t already own the company.
When an analyst downgrades a stock from buy to hold or from hold to sell, it means they’ve lost faith in its ability to provide market-beating returns. When a stock is downgraded, traders may be tempted to sell it on the belief that others would do so as well. The cumulative effect of all of this selling can cause the stock price to plummet, sometimes severely.
Downgrades can occur in response to news, such as when a company’s earnings report below expectations. Analysts may also degrade a stock solely on the basis of its valuation. If an analyst believes a stock’s price has risen too far to be justified by the underlying company’s profitability, despite no change in the company’s long-term prospects, the analyst may downgrade the stock.
Reasons for Downgrade
- A prominent bank analyst who had a buy rating on the stock during a significant slide decides to lower their rating, producing some surrender in the stock price, which then reverses intraday and leads to higher prices in the coming weeks.
- A weakened dollar, somewhat higher interest rates, and a further jolt to the country’s already shaky economic confidence
- Poor future prospects for the company, and maybe the entire industry. Any rating revisions are heavily influenced by information collected from the company’s financial documents.
- The total number of shares. Companies with an excessive number of shares on the market distribute their EPS to an excessive number of shareholders. This has the effect of diluting the value of the company’s stock. This reduces profitability and jeopardizes your stock investment.
- Both credit rating agencies and stock valuation firms publish watchlists or comparable lists that identify securities or companies that are likely to be downgraded. They tend to downgrade if they observe a downgrade sign
Types of stock downgrades
- Stock downgraded to hold, neutral, equal weight
- Stock downgraded to sell, underperform, underweight
- Stock target price change
What is a double downgrade?
Rating agencies offer information to investors about a company’s or country’s ability to repay debt, such as how likely they are to make timely interest payments or default. Standard and Poor’s (S&P), Moody’s, and Fitch Ratings are the three major global credit rating agencies.
Double downgrade means, when any two of Moody’s, Standard and Poor &P, or Fitch rates the Company’s long-term senior unsecured debt to, or the Series C Preferred Shares, Series F Preferred Shares, or Series G Preferred Shares fall below Baa3 or BBB-at any time.
Double downgrade also occurs when Moody’s or S&P give the Series D Preferred Shares, Series E Preferred Shares, Series F Preferred Shares, or Series G Preferred Shares a rating below Baa3 or BBB.
Can a market analyst downgrade a stock but raise the target price?
A downgrade refers to a decrease in a security’s rating. This occurs when experts believe the security’s future prospects have deteriorated since the original recommendation, usually as a result of a major and fundamental change in the company’s operations, future outlook, or industry. A downgrade (e.g., from “hold” to “sell”) tends to send the price lower. Price targets set by analysts are rarely exact, but they are recognized by the market as having some value, and they can have an impact on the market. They can assist in the creation of attractive trading opportunities. A downgrade (e.g., from “hold” to “sell”) tends to send the price lower.
Why is downgrade a serious issue?
Stock downgrade has negative effects to both consumers and investors that is why it is a serious issue.
The misery index falls when stock downgrade is significant. The misery index is intended to evaluate the level of economic suffering caused by average people as a result of the threat of (or actual) joblessness paired with rising living costs. It is measured by rate of unemployment and inflation.
Individual unemployment costs are not difficult to assess. When someone loses their work, it frequently has an immediate effect on their way of living. Unemployment causes state and federal governments to make more payments for unemployment benefits, food assistance, and Medicaid.
Inflation reduces purchasing power, or the amount of something that can be bought with money. Because inflation reduces the purchasing power of currency, consumers are encouraged to spend and store up on products that depreciate more slowly. Fixed income instruments, such as bonds, treasuries, and CDs, are typically purchased by investors who want a steady stream of income in the form of interest payments. Inflation reduces the present value of a bond’s future fixed cash payments by eroding the buying power of its future (fixed) coupon income.
Home prices go down. Many people who purchase a property do not believe that the value of their home will ever decline significantly. But when a stock downgrades the home prices go down.
Wages go up. Any wage increase will raise the amount of money available to customers. Consumers have more spending power as the money supply is increased, hence demand for goods rises. When demand for commodities rises, the price of items in the larger market rises as well.
Consumer confidence go down. Consumers feel less confident in their financial prospects, and they begin to spend less money; this, in turn, has an impact on businesses, as sales begin to decline. The economy will decelerate and may eventually enter a recession if consumer spending continues to fall and firms begin to cut down on production.
Breakout points when trading stock downgrade
After hearing this announcement, traders quickly move to sell the stock with the assumption that investors will dump or lower their investments. This drop mainly occurs when there is a downward breakout after the announcement. In such a scenario, there is a short-term market bearish continuation as the stock was on a downtrend before the announcement.
In an upward breakout, the price will rise for a short period after the announcement, most preferably, a week. This breakout initiates a short-term bullish reversal. The stock may be in an uptrend before the announcement. It may continue to rise for a week before the price is shot down as sellers exceed buyers in the market.
Identification of downgrade impact on stock
The trader must ensure that the trading expert announcing the downgrade is certified and works as a reputable brokerage firm. Announcements by major companies have a direct impact on the stock’s price. Traders must act quickly after establishing the authenticity and popularity of the announcing firm.
View a large change in price
Traders will make more profits if they first observe intraday trading on the day of the announcement. If there is a large trading range on the day of the announcement, then the stock is likely to make a great price move. The trading range should be larger than the average price of the previous month before the downgrade announcement.
Volume and breakout
Notice the downward breakout after the announcement. This breakout signals a downtrend, and the trader should prepare to sell the stock. In regards to the volume, there will be a surge in volume trends, especially if a major broker announces the downgrade.
Real market scenarios
Figure 1: Photronics Stock downgrade
Photronics Inc. (NASDAQ: PLAB) was downgraded by Stifel on February 25, 2021, when they lowered their rating from buy to hold. The investment analysis bank announced Photronics’ earnings-per-share (EPS) reduced from $0.16 to $0.13 (YoY). Additionally, the stock closed at $13.38 on that trading day, declining 1.97% from the 52-week high of $13.65.
A look at figure 1 shows that the stock declined immediately from $13.21 on that trading day to $11.20 on March 8, 2021. PLAB stock declined 15.21% in less than 14 days after the downgrade announcement before it began picking up again. The trader that bought the stock immediately after the downgrade announcement would have lost up to 15% of his investment since the stock decreased in value. The number of sellers exceeded the number of buyers in the market.
Figure 2: Cimarex Energy
Cimarex Energy Co. (NYSE: XEC) was downgraded by MKM partners from buy to neutral on February 25, 2021. The research and trading company indicated that the fourth quarter (Q4) 2020 had seen the company lower the EPS by 24% from 1.18 in 2019 to 0.89 in 2020. XEC’s hit a 52-week high of 61.60 after plummeting to a year low of $12.15. The stock traded at $60.80 on February 24, 2020.
This stock downgrade did not negatively affect the price, as seen in figure 2. The price rose from $55.08 on the trading day to $69.31 (+25.83%). The stock only began to decrease from March 15, 2021, to March 25, 2021. The decrease could not be attributed to the stock downgrade.
In this scenario, an investor that would quickly rush to sell the XEC stock would burn his investment. The stock rose and was in an uptrend for close to 10 days after the announcement. The number of buyers exceeded the number of sellers in the market, forcing the price to shoot.
Figure 3: Viacomcbs Inc.
Viacomcbs Inc. (NASDAQ: VIAC) was downgraded by Moffett-Nathanson trading and research company on March 25, 2021, from neutral to sell rating. The broker decided to increase the EPS from $0.97 in Q4 2019 to $1.04 in Q4 2020 (+7.22%).
Additionally, the stock had gained 760.51% in the 52-week analysis, from a low of $11.85 to a high of $101.97. However, the substance of the downgrade was derived from a decrease in the stock’s price as of March 24, 2021, which stood at $70.10.
The stock was still 31.25% short of reaching the 52-week high. Further movement of the stock’s price from the 52-week high led to the high impact of the stock downgrade to the stock’s price. Additionally, the stock’s rating shifted from neutral to sell, which denotes a drastic shift in the price trend.
So do you buy after a downgrade?
As revealed in the three examples, do not rush to buy a stock after a downgrade. The downgrade may push the price lower, but the price may continue the downtrend and bring about great losses. Look for reasons that may push the stock’s position. Fundamental analysis is crucial to initiate the trader’s decision.
Watch for the breakout to ensure the announcement was not made when the stock was close to a change in the trend line. Some downgrades occur when the stock is nearing its year low. Watch and ensure it bottoms before approving the buy signal.
In figure 2, the downgrade occurred after the stock had taken off from its yearly low and had already initiated a rounded bottom. The stock was bound to rise, and traders took advantage of the peak. If you have to short the stock in a downgrade, put a stop-loss to limit risk in case the market recovers.
Downward breakouts give the sell signal to the traders. Watch and begin to sell after a pullback (See figure 2). If there is an upward breakout, watch and ensure the price assumes a rounded position before selling.
Top services-sources for stock upgrades and downgrades
For day traders, Benzinga Pro provides a real-time news source. Benzinga provides you with a trading advantage by providing you with quick real-time market-moving news. You’ll also benefit from a squawk box, direct access to the news desk, and unique reporting. Benzinga ratings calendar provides analyst upgrades and downgrades. On the calendar you get conference calls, dividends, earnings, economics, earnings projections, IPOs, retail sales, SEC filings, secondary offerings, and split announcements.
Fly on the Wall
Fly On The Wall stock news is a popular news feed trading tool that provides real-time stock news. It can be an excellent resource for determining the cause of a price change after it has occurred. The Fly On The Wall gives traders the advantage they need to make quick choices by providing information on stock upgrades and downgrades as soon as they become public knowledge. The Fly Cast audio function, which delivers the relevant information right when it’s needed. Users get them via headphones or speakers, which gives traders a significant edge while they are preoccupied with charting and continuous trading and don’t have time to read the news in between.
By filtering out market noise and just delivering news that may drive the market, briefing keeps traders and investors informed of critical news events. Briefing covers live market coverage, in-depth market analysis, technical and fundamental analysis, configurable alert and portfolio functionalities, and calendars to deliver stock upgrade and downgrade information. Alerts, watch lists, compatible brokers, and configurable and saved layouts are all included. Briefing.com’s research features, as well as the fact that the site tends to highlight only actionable transactions inside the Live In Play stream, can benefit longer-term investors.
Trade the News
Tradethenews.com is a carefully calibrated financial news feed platform that delivers timely market-moving data, analytics, articles, and actionable ideas to active traders and institutions around the clock. It serves as a one-stop shop for traders looking at stock upgrade and stock downgrade news data, free of the fluff that is frequently incorporated into larger commercial news feeds. Data is sent by e-mail and a desktop platform with an audio-squawk box and (onscreen) text.