Beware of Bullish Analysts

If you’re looking for stocks and you run across some that Wall Street analysts say will double in the near future, watch out. Many times these are “penny stocks” (those trading for $5 or less), and you might be better off buying a lottery ticket instead.

Know that Wall Street analysts are notoriously inaccurate. Patrick Cusatis and J. Randall Woolridge of Pennsylvania State University studied 20 years’ worth of published earnings estimates made by Wall Street industry analysts and found that they consistently overestimated the future earnings growth rates of the companies they cover. By a lot — around 40 percent more. So take analysts’ forecasts with a grain of salt at best.

They’re fickle, too. Within a few weeks or months, they might change their expected earnings for a company from $4 to $3 to $1.

When familiar companies have fallen to penny-stock levels, there’s usually a good reason for it. They may be crushed by heavy debt or may be struggling against and losing market share to growing competitors.

So be a prudent investor. Don’t trade too often. A study published in The Journal of Finance showed that investors who trade most frequently trail the market by 6.5 percentage points annually.

Consider dividend-paying stocks. According to Wharton Business School professor Jeremy Siegel, between 1958 and 2002, portfolios of the highest-yielding stocks returned 4.8 percentage points higher annually, with less risk, than baskets of the lowest-yielding stocks.

The path to building wealth and crushing the market over the long haul doesn’t involve day-trading or chasing after the next rocket stock — it can be as simple as patiently investing in the tried and true. Specifically: blue chips that pay large, sustainable dividends.

To see our list of recommended dividend paying stocks, try our Motley Fool Income Investor newsletter for free (at www.fool.com/shop/newsletters). For perspective, the average yield of the select companies on our scorecard tops 4 percent. Compare that to the puny yield you can get on CDs or your bank accounts. 