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What Is a Laggard?
Let me explain what a laggard is in simple terms: it's a stock or security that's underperforming compared to its benchmark or peers. You'll see it has lower-than-average returns relative to the market. Think of it as the opposite of a leader stock.
Key Takeaways
- A laggard underperforms its benchmark in terms of investment returns.
- If you hold laggards in your portfolio, these are usually the first ones you should consider selling.
- You might mistake a laggard for a bargain, but remember, they come with excess risk.
Understanding Laggards
Most often, when I talk about a laggard, I'm referring to a stock, but the term can also apply to a company or even an individual that's been underperforming. We use it to contrast good versus bad, like 'leaders vs. laggards.' As an investor, you want to steer clear of laggards because they deliver less-than-desired rates of return. In a broader sense, 'laggard' implies resistance to progress and a habit of falling behind.
Take stock ABC as an example: if it consistently posts annual returns of only 2 percent while other stocks in the industry average 5 percent, that's a laggard. If your portfolio includes such laggards, they're likely the first to go when you sell. Holding a stock that returns 2 percent instead of 5 percent means you're losing 3 percent each year. Unless there's a strong reason to believe something will turn it around—like a catalyst to boost shares—keeping a historical laggard just costs you money.
The underperformance usually stems from issues specific to the company. Maybe they've lost a major contract, or they're facing management or labor problems. Perhaps their earnings are declining in a competitive market, and they haven't figured out how to reverse it.
Risks of Buying Laggard Stocks
How does a stock end up as a laggard? It could be from continually missing earnings or sales estimates, or showing weak fundamentals. Lower-priced stocks add more risk because they often have less trading liquidity in dollar terms and wider spreads between bid and ask prices.
Everyone likes a bargain, but in investing, a cheap or laggard stock might not be the deal you think it is. You could end up with exactly what you paid for—something flawed. A stock at $2, $5, or $10 might seem full of potential upside, but most under $10 are cheap for a reason: past deficiencies or current problems.
Consider a smarter approach: buy fewer shares of a high-quality stock that's steadily rising, rather than loading up on thousands of shares of a cheap one. Top mutual funds and big investors prefer companies with solid earnings and sales histories, share prices of at least $15 on Nasdaq or $20 on NYSE, and daily volumes of at least 400,000 shares. This setup allows them to trade without much impact on the price.
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