If you’ve ever read a report from an investment analyst, you may have seen stocks described as “overweight.” It can be a confusing term. Most people are used to seeing more straightforward “buy” or “sell” ratings.
If an analyst rates a stock as “overweight,” they think that the stock will perform well in the future. They believe it is worth buying, as it could outperform the broader market and other stocks in its sector. On the flip side, an “underweight” rating means they think future performance will be poor. Usually, the rating refers to predicted performance over the next six to 12 months.
You can think of “overweight” and “underweight” as being the same as “buy” and “sell." But there’s a little more to it than that. Let’s take a look at the rating system to find out where “overweight” and “underweight” fit in.
Three- and Five-Tier Rating Systems
Stock analysts are employed by investment firms to perform research and issue recommendations. This often comes in the form of a rating.
You may be most familiar with the three-tiered rating system of “buy,” “sell,” and “hold.” Those are easy to remember because they offer guidance on what you should do with a stock.
Not every firm uses the same terms. Some use systems with five tiers instead of three. Some analysts don’t use “overweight” at all. Instead, they might use terms like “outperform” “add” or “accumulate.” Instead of “underweight,” they may use “underperform,” “reduce” or “weak-hold.”
There are no rules dictating how companies issue ratings, so it helps to become familiar with each company's system.
In general, “overweight” is nestled in between “hold” and “buy” on a five-tier rating system. In other words, the analyst likes the stock, but a “buy” rating suggests a stronger endorsement.
But it can be even more confusing. Some firms use a three-tier rating of “underweight” “equal weight” and “overweight.” This is because some are shying away from offering clear "buy" or "sell" advice. In this case, it’s fine to view “overweight” as meaning “buy.”
Why the Reference to Weight Is Used
You may hear “overweight” used in a different context, often relating to the makeup of an investment portfolio.
In most cases, your portfolio should be made up of a diverse mix of stocks and other investments. You should try to avoid being too heavily invested in any one thing. When you have a good mix like this, it means that your portfolio is properly “balanced.”
When your portfolio is unbalanced, it may mean that you are too heavily invested in one thing. This is also known as being “overweight.” And if you don’t have enough of a certain investment in your portfolio, you are considered “underweight.”
So, what does this have to do with analyst ratings?
Keep in mind that stock market indexes, such as the S&P 500, are constructed based on market capitalization. Each stock gets a certain amount of “weight” in the index. So, for instance, in May 2021, Apple had a weighting of 5.70% in the S&P 500. This is because it is one of the world’s largest companies.
If an analyst provides an “overweight” rating on a stock, they are saying that the company should soon receive a higher “weight” in any index it is a part of.
Some firms will use “overweight” and “underweight” in reference to sectors instead of specific stocks. For instance, they may issue a report stating that the retail sector is “overweight.” This means that it will likely outperform the overall market.
But none of this is very useful for the average person. For most of us, it’s best to view an “overweight” rating as simply another way of talking positively about a stock.
Ratings Are Just Guides
For each stock, there will be countless people giving opinions on whether it’s a good investment or not. Ratings are simply one piece that goes along with past price performance, earnings reports, profit margin, and other information.
No one should ever buy or sell a stock based on what one single person thinks. And this is especially true because analysts often disagree. Thus, trying to figure out what an analyst truly means by any rating, whether “overweight” or something else, is not very useful.