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Prophets and Losses: Reassessing the Returns to Analysts' Stock Recommendations
Abstract
After a string of years in which security analysts’ top stock picks significantly outperformed their plans, the year 2000 was a disaster. During that year the stocks least favorably recommended by analysts earned an annualized market-adjusted return of 48.66 percent while the stocks most highly recommended fell 31.20 percent, a return difference of almost 80 percentage points. This pattern prevailed during most months of 2000, regardless of whether the market was rising or falling, and was observed for both tech and non-tech stocks. While we cannot conclude that the 2000 results are necessarily driven by an increased emphasis on investment banking by analysts, our findings should add to the debate over the usefulness of analysts’ stock recommendations to investors. They should also serve to alert researchers to the possibility that excluding the year 2000 from their sample period could have a significant impact on any conclusions they draw concerning analysts’ stock recommendations.
... The answers received support, in the majority of cases, the hypothesis of potential conflict of interests. 3 Barber, Lehavy, McNichols and Trueman (2001) analyze how the degree of consensus (i.e. the average judgment resulting from overall coverage of a stock) can help investors to put in place profitable investment strategies. The authors' conclusion is that the semi-strong form of efficiency of the market is probably not violated by the diffused information. ...
... Nevertheless, the authors highlight how, during year 2000 the firms recommended less favorably from analysts have recorded on average market adjusted returns of 48,66% while those most 3 It clearly remains to be verified if this result is significant and if the sample of analysts and money managers is representative, nevertheless the signal is very clear. ...
In this paper we verify the degree of reliability of brokerage analysts' recommendations, with reference to Italian IPOs and measure their long-term performance, distinguishing among affiliated and non-affiliated analysts, to test the conflict of interests hypothesis against an alternative 'superior information hypothesis'. The empirical evidence shows that IPOs recommended by affiliated analysts have a long-run performance that is worse than firms recommended by unaffiliated ones by a relevant amout. This result supports the conflict of interest hypothesis, while it seems to be inconsistent with the hypothesis that underwriter analysts have superior information.
... In most countries, these strategies performed poorly in 2000 and 2001, and this poor performance wiped out the profits during the earlier part of the sample period. Barber et al. (2002) previously find that such strategies are extremely unprofitable in these two years in the US, and we uncover similar results in the other countries as well. ...
We evaluate the value of analysts’ recommendations in the G7 countries. Stock prices react significantly to recommendation revisions in all countries except Italy. We find the largest price reactions around recommendation revisions and the largest post-revision price drift in the US. Neither differences in the timing of recommendation revisions relative to earnings announcements nor differences in industry coverage explain the superior performance of the US analysts’ recommendations. Tests within a subsample of ADRs indicate that the most likely explanation for the superior performance is that the US analysts are more skilled at identifying mispriced stocks than their foreign counterparts.
... 7 Womack (1996) and Barber et al. (2001) find that recommendation changes are associated with future stock returns. Other recent studies find mixed results on the usefulness of stock recommendations (Barber et al. 2003; Mikhail, Walther, and Willis 2004; Li 2005; Gleason et al. 2007). The combined evidence suggests that analysts' earnings forecasts provide useful information for measuring intrinsic values but that analysts' recommendations do not. ...
We are very grateful for valuable comments received from two anonymous reviewers, the editor, and workshop participants at Baylor University and Texas Tech University. Hope gratefully acknowledges the financial support of the Social Sciences and Humanities Research Council of Canada and the Deloitte Professorship.
... Barber, et al. ( ) study analyst recommendations (1985Barber, et al. ( to 1996 and document that stocks with the most favorable recommendations outperform the stocks with the least favorable recommendations by 13 percent per year. In a follow-up study, Barber, et al. (2002) show that this predictability continues for the remainder of the bull market, 1997 to 1999. However, the data for the first two years of the bear market shows that favorable stocks underperform the unfavorable stocks by 20 percent per year. ...
We examine the behavior and performance of individual investors in Japan. In empirical tests using market level data, we find that Japanese individual investors own risky and high book-to-market stocks, trade frequently, make poor trading decisions, and buy recent winners. Further, these behaviors and characteristics appear to vary depending on the bull or bear market conditions. Interestingly, we also observe that it is primarily during a bull market where individuals tend to hold high book-to-market stocks, as opposed to a bear market where they exhibit an inclination toward high beta stocks. Overall, the poor performance by individual investors can largely be explained by this tendency to hold value stocks during advancing markets and high risk stocks during declining stocks. Finally, the fact that these behaviors reveal themselves at the market level also represents an important finding.
... Size-adjusted returns then became the difference between the compounded holding period return for the firm and the compounded value-weighted returns for the portfolio ( Barber et al. 2001;Mikhail, Walther, and Willis 1999). ...
Financial benefits from quality may be derived from revenue expansion, cost reduction, or both simultaneously. The literature on both market orientation and customer satisfaction provides considerable support for the effectiveness of the revenue expansion perspective, whereas the literature on both quality and operations provides equally impressive support for the effectiveness of the cost reduction perspective. There is, however, little evidence for the effectiveness of attempting both revenue expansion and cost reduction simultaneously, and some of what little empirical and theoretical literature is available suggests that emphasizing both simultaneously may not work. In a study of managers in firms seeking to obtain a financial return from quality improvements, the authors address the issue of which quality profitability emphasis (revenue expansion, cost reduction, or both) is most effective. The authors examine firm performance using managers' reports of firm performance and longitudinal secondary data on firm profitability and stock returns. Although it is clear that no company can neglect either revenue expansion or cost reduction, the empirical results suggest that firms that adopt primarily a revenue expansion emphasis perform better than firms that try to emphasize cost reduction and better than firms that try to emphasize both revenue expansion and cost reduction simultaneously. The results have implications with respect to how both theory and practice view organizational efforts to achieve financial returns from quality improvements.
... Ritter and Welch (2002) provide an extensive survey of recent IPO literature with a focus on the U.S. For an international perspective, see Jenkinson and Ljungqvist (2001). 3 Several other papers Womack (1996), Barber, Lehavy, McNichols, and Trueman (2001 Trueman ( , 2002) and Jegadeesh, Kim, Krische, and Lee (2001) -investigate the performance of analyst recommendations. Rather than focusing on the distinction between affiliated and unaffiliated recommendations, the main question addressed in these papers is whether an investor can profit by following analyst recommendations. ...
Underwriter analysts issue recommendations that are on average more favorable than recommendations of other analysts. In this paper, I ask whether this bias matters for returns, and whether it matters for wealth redistribution between institutional and individual investors. I find that underwriter 'Strong Buy' recommendations for IPOs exhibit inferior performance. For other positive recommendations - 'Buys' for IPOs, and 'Strong Buys' and 'Buys' for SEOs - there are no significant differences between affiliated and unaffiliated analysts. Institutional reaction to analyst recommendations is broadly consistent with these results. For IPOs, institutions increase their holdings only in response to unaffiliated recommendations. For SEOs, the response to underwriter recommendations is actually somewhat stronger than to non-underwriter recommendations. In addition, there is little evidence that individual investors as a class incur losses by following the 'Strong Buy' recommendations issued by IPO underwriters.
... We do not report these results because almost all of the price drift occurs in the first year. Moreover, our two-year holding period results are sensitive to the inclusion or exclusion of 2000 (see Barber et al. 2003). * Indicates two-tailed t-test of difference from zero is significant at 0.001. ...
We document several factors that help explain cross-sectional variations in the post-revision price drift associated with analyst forecast revisions. First, the market does not make a sufficient distinction between revisions that provide new information ("high-innovation" revisions) and revisions that merely move toward the consensus ("low-innovation" revisions). Second, the price adjustment process is faster and more complete for "celebrity" analysts (Institutional Investor All-Stars) than for more obscure yet highly accurate analysts (Wall Street Journal Earnings-Estimators). Third, controlling for other factors, the price adjustment process is faster and more complete for firms with greater analyst coverage. Finally, a substantial portion of the delayed price adjustment occurs around subsequent earnings-announcement and forecast-revision dates. Collectively, these findings show that more subtle aspects of an earnings revision signal can hinder the efficacy of market price discovery, particularly in firms with relatively low analyst coverage, and that subsequent earnings-related news events serve as catalysts in the price discovery process.
... In most countries, these strategies performed poorly in 2000 and 2001, and this poor performance wiped out the profits during the earlier part of the sample period. Barber et al. (2002) previously find that such strategies are extremely unprofitable in these two years in the US, and we uncover similar results in the other countries as well. ...
We evaluate the value of analysts’ recommendations in the G7 countries. Stock prices react significantly to recommendation revisions in all countries except Italy. We find the largest price reactions around recommendation revisions and the largest post-revision price drift in the US. Neither differences in the timing of recommendation revisions relative to earnings announcements nor differences in industry coverage explain the superior performance of the US analysts’ recommendations. Tests within a subsample of ADRs indicate that the most likely explanation for the superior performance is that the US analysts are more skilled at identifying mispriced stocks than their foreign counterparts.
... Another commonly used feature of analyst data is the consensus analyst recommendation for a particular firm. Consensus recommendations are frequently employed in quantitative trading strategies, following evidence that sorting based on consensus recommendations (Barber et al. (2001Barber et al. ( , 2003), and particularly on changes in consensus recommendations (Jegadeesh et al. (2004)), is a profitable strategy. How do the changes to the I/B/E/S database affect such a strategy? ...
We document widespread changes to the historical I/B/E/S analyst stock recommendations database. Across seven I/B/E/S downloads, obtained between 2000 and 2007, we find that between 6,580 (1.6%) and 97,582 (21.7%) of matched observations are different from one download to the next. The changes include alterations of recommendations, additions and deletions of records, and removal of analyst names. These changes are nonrandom, clustering by analyst reputation, broker size and status, and recommendation boldness, and affect trading signal classifications and back-tests of three stylized facts: profitability of trading signals, profitability of consensus recommendation changes, and persistence in individual analyst stock-picking ability. Copyright (c) 2009 the American Finance Association.
... Doing this, I leave aside two important bodies of research related to financial analyst forecasts. First, I do not review the literature that examines the investment value of financial analyst forecasts (see Womack, 1996;Barber et al., 2001;Chan et al., 1996 among others) and the investment performance of various valuation models that use financial analyst forecasts; see Frankel and Lee (1998), Lee et al. (1999), and Liu and Thomas (2000) among others. ...
Thèse sc. écon. Neuchâtel. Literaturverz.
... The defense of the currency is 63 percent stronger in the 4 months preceding an election than in a normal period, but this drops to 19 percent in the 3 following months (Leblang, 2001). 4 In recent years, there has been increasing interest among economists, political scientists and sociologists in this topic and a growing body of literature is now exploring the connections between financial markets and politics (Santiso, 1999b: 307–330; Bacmann and Bolliger, 2001; Barber et al., 2001; Boni and Womack, 2002). The emerging literature suggests that political variables are indeed significant explanatory factors in emerging markets' crises. ...
Using survey data, we document that foreign-owned institutions became more pessimistic than locally owned institutions about the strength of the Brazilian currency around the 2002 presidential elections. As a result of their relative pessimism, foreign-owned institutions made larger forecast errors. Consistent with the emergence of their relative pessimism, foreign investors heavily sold Brazilian stocks and the Brazilian currency in futures markets ahead of the 2002 elections. Periods of stronger foreign sell-off were associated with larger equity price declines and larger depreciation of the Brazilian Real in spot and futures markets. These results are consistent with foreign investors’ relative lack of knowledge of Brazilian institutions contributing to the sharp depreciation of the Brazilian currency and stock market ahead of the 2002 presidential elections.
... The holding period for the strategies tested in our paper includes the year 1999, but not 2000.Barber et al. (2001b) report that during the calendar year 2000, stocks least favorably recommended by analysts earned higher subsequent returns than stocks that are highly recommended. However, their tests only examine the level of the consensus variable, which has little marginal predictive power even during our sample period. ...
We show that analysts from sell-side firms generally recommend "glamour" (i.e., positive momentum, high growth, high volume, and relatively expensive) stocks. Naïve adherence to these recommendations can be costly, because the "level" of the consensus recommendation adds value only among stocks with favorable quantitative characteristics (i.e., value stocks and positive momentum stocks). In fact, among stocks with unfavorable quantitative characteristics, higher consensus recommendations are associated with worse subsequent returns. In contrast, we find that the quarterly "change" in consensus recommendations is a robust return predictor that appears to contain information orthogonal to a large range of other predictive variables. Copyright 2004 by The American Finance Association.
... 5 And even during the slump, despite contrary evidence, the view of the reporters, in the long term and in its general trend, was positive. 6 In view of the importance attached to stock recommendations in the media, the lack of knowledge about this kind of business communication is surprising: Neither its effects nor its benefits have been researched systematically. ...
The business media play an active role in influencing stock prices. Statistically significant excess returns at the time of the publication of stock recommendations have been documented many times. Frequently these abnormal gains begin to accumulate long before the publication date. In most cases they reach their highs on the day the recommendations are disseminated to the public. With few exceptions a price reversal sets in shortly thereafter: Excess returns in recommended stocks are at least partially given up.
We study the performance of hated stocks, defined as stocks with the average analyst recommendation level of hold or worse. From 2009 to 2016, this group of hated stocks in S&P 500 performs better than the other stocks in S&P 500. When we extend the sample to all stocks with at least five analysts following, hated stocks again outperform non-hated stocks in the same time period. However, this result is driven by two factors: the impact of the time period of 2009 and 2010, and low priced stocks. If we start the strategy of investing in hated stocks at the beginning of 2011, or if we exclude low priced stocks, there is no significant outperformance of the hated stocks.
This paper explores whether conflicts of interest between investors and investment banks are associated with investor attention. We find that analysts tend to issue positive recommendations about firms. However, analysts' recommendations do not align with their subsequent trades. Although conflicts of interest exist, they mainly occur on strong buy recommendations and firms that attract investor attention. Investment banks profit from strategically trading on their own recommended stocks that have high abnormal volume.
This study seeks to show the impact of stock recommendation reports on the effi ciency of investments in the Polish stock market. The study is carried out in two stages: the fi rst takes place at the micro-level and is based on a behavioural experiment, while the second focuses on the verifi cation of our results obtained on a real market. The main assertion is that stock recommendations create heuristic effects among investors near the publication date of the recommendation. The ambiguity of the recommendations hinders investors' reliable and unequivocal evaluation in investment decisions. There are studies in this fi eld for different stock markets and periods of time, but our research added signifi cant new knowledge about the functioning of the Polish stock exchange. Our study fi ts into the mainstream analysis of outlining the behaviour of investors in the capital market. The research fi ndings underpin our pessimism about the impact of stock recommendations on investors' behaviour.
The purpose of this paper is to further understanding of the determinants of analysts’ translational effectiveness and, specifically, the role of stock characteristics in the impact of sentiment in the translation of analysts’ forecasts into recommendations. We also analyse the impact of sample bias (deriving from the degree of analyst coverage) on mean translational effectiveness across all listed firms. The study analyses the non-financial firms listed on the London Stock Exchange from 1994 to 2010. We construct a proxy of intrinsic value of a stock based on that of Ohlson (1995), which incorporates all the information contained in the analysts’ earnings forecasts. As the recommendation is a discrete variable, we use Ordered Probit analysis. Our results show that, although analysts do translate their earnings forecast valuations into recommendations, the effectiveness of this process is reduced by investor sentiment only in highly sentiment-sensitive stocks. This suggests the degree of analyst coverage as a potential conditioner of the observable results in a market. While not totally eliminating this observed effect, the Market Abuse Directive regulation does contribute to reduce the skew between analysts’ earnings forecasts and their recommendations. Finally, analysis of this effect reveals that this kind of skew enables investment strategies yielding positive risk-adjusted returns in highly sentiment-sensitive stocks, during periods of high market sentiment.
The aim of this paper is to present the impact of stock recommendations on the prices in the context of excessive optimism heuristic. The main goal of the conducted analysis is to show that investors on the Warsaw Stock Exchange seem to ignore the economic information that comes with the recommendation report. Also, as the analyzed recommendations are set in the specified economic conditions, authors would like to show that reports are biased with excessive optimism.
The research of the structure of recommendations was issued for the biggest companies of the Polish market listed on the Warsaw Stock Exchange from 2009 to 2012. The investigation showed that the ambiguity of the creation methods of analytical reports and differences in valuation of companies causes subjectivism in analysts’ assessments, which leads to heuristic effects. According to the authors, the structure of reports and their specificity shows that excessive optimism is an important factor in creation of stock exchange recommendations.
From a firm-year perspective, sorting all analysts issuing forecasts for a firm into quartiles, with analysts' forecasts samples exceeding 7700 and stock rating samples exceeding 21000, this paper tests relationship between analysts' earnings forecasts accuracy and recommendations investment value by computing the characteristics and daily returns of the long and short portfolio of each quartile. The results show that there is no strictly positive correlation between forecast accuracy and recommendation profitability. It is also found that superior earnings forecasts does not certainly facilitate superior investment recommendations. In the long portfolios, the third quartile reported highest daily abnormal four-factor adjusted return, which is 0.081%.But it has little difference with the first quartile. The lowest daily abnormal four-factor adjusted return is reported in the second quartile, which is only 0.016%.
This empirical study investigates the relationship between the market mispricing of pro forma earnings announcements and the degree to which pro forma earnings are quantitatively reconciled with GAAP (Generally Accepted Accounting Principles) earnings. For a sample of EURO STOXX Fixed Index companies we find evidence of positive abnormal returns related to pro forma earnings disclosures, and, upon further analyses, conclude that this evidence is generally more consistent with the notion of market mispricing than omitted risk factors. Moreover, when reconciliation quality is controlled, market mispricing is found to be prevalent and pronounced only for low quality reconciliations. This finding suggests that reconciliation is important in reducing market mispricing.
This paper focuses on the interactions between politics and finance in emerging economies stressing the case of Brazilian presidential elections. More precisely, it underlines how Wall Street (i.e. financial markets) incorporates and reacts to major Latin American political and democratic events such as presidential elections. As a case study, we focused on Brazilian presidential elections as a starting point, after having analysed, in a first approximation, the political regimes preferences of markets through the indexes. The second section presents an empirical study of Wall Street analysts' perceptions of a major political occurrence, the presidential elections in Brazil. The empirical analysis is based on the production output and reports of Wall Street investment firms during the years 2002 and 2003, focusing on the top fixed income teams of Wall Street, as ranked by Institutional Investors, Bloomberg and Latin Finance in their league tables. Finally, in the third and last section, we used economic and financial historical data of previous election years in Brazil, in order to view the specific events from a comparative historical perspective.
While a large literature has examined analysts’ earnings forecasts or stock recommendations in isolation, there is little research on the effectiveness with which analysts translate their earnings forecasts into recommendations (referred to as translational effectiveness). This study provides a comprehensive analysis of the determinants of analysts’ translational effectiveness, including the investment banking pressure considered in prior research and four new factors (i.e., insider trading, trading commissions, institutional ownership and investor sentiment). Consistent with prior research, the influence of investment banking on translational effectiveness is reduced in the period subsequent to the 2002/2003 regulatory changes. However, the effect of insider trading, institutional ownership and investor sentiment on translational effectiveness remains as significant or becomes even stronger. In addition, the combined influence of these four new factors on translational effectiveness is as equally important as the influence of the investment banking pressure.
From 1994 to 1998, Bradshaw (2004) finds that analysts' stock recommendations relate negatively to residual income valuation estimates but positively to valuation heuristics based on the price-to-earnings-to-growth ratio and long-term growth. These results are surprising, especially considering that future returns relate positively to residual income valuation estimates and negatively to heuristics. Using a large sample of analysts for the 1993-2005 period, we consider whether recent regulatory reforms affect this apparent inconsistent analyst behavior. Consistent with the intent of these reforms, we find that the negative relation between analysts' stock recommendations and residual income valuations is diminishing following regulations. We also show that residual income valuations, developed using analysts' earnings forecasts, relate more positively with future returns. However, we document that stock recommendations continue to relate negatively with future returns. We conclude that recent regulations have affected analysts' outputs - forecasted earnings and stock recommendations - but investors should be aware that factors other than identifying mispriced stocks continue to influence how analysts recommend stocks.
The common wisdom about sell-side analysts is that their recommendations tend to be overly optimistic under the pressure from their investment banking colleagues. This paper answers the question whether it is the optimistic analyst or the good analyst (an analyst with superior stock-picking ability) who increases the chance of winning equity mandates for investment banks. We find that analysts' recommendation performance can explain their investment banks' chance of winning future mandates. There is a positive relation between the performance of an analyst's recent buy and strong buy recommendations and his bank's chance of winning future underwriting mandates. On the other hand, the relation between an analyst's optimism and his bank's chance of winning future mandates is weakly negative. The results are robust after controlling for analyst and investment bank characteristics as well as past investment banking relationship. We conjecture that stock-picking earns analysts credibility among investors and this reputation plays an integral role in investment banks' underwriting process. And we document anecdotal evidence to support our conjecture. The key finding of this paper identifies a countervailing force to the well-documented incentives for analysts to be optimistically biased. The current organization structure of investment banks, i.e., the affiliation between equity research and investment banking, has been blamed for analysts' optimism due to the conflict of interest problem. The feedback effect identified in this paper suggests that the affiliation also provide analysts with incentive to be good rather than optimistic.
Italy is a pioneer case in the regulation on financial research: a dissemination regime aimed at granting a) equal access to research reports by all clients, and b) free delayed public access to reports, has been implemented since 1998. The effective enforcement of the provision on public access to research reports, via publication on the Stock Exchange website, caused lively protests by domestic securities houses. We analyze the impact on stock prices of changes in analyst recommendations, both on the report date (when reports are distributed to clients) and on the public access date (when they become publicly available). We benefit of a unique database, consisting of more than 5,000 research reports available on the Italian Stock Exchange website. We document an excess return of +2.52% for upgrades, -2.63% for downgrades, both statistically significant, over a three-day event window around the report date. Abnormal returns are already present prior to the event day. This circumstance is surprising, given the dissemination regime prescribed by Italian regulation. Post-event abnormal returns are seemingly differentiated according to the type of recommendation: Upgrades show a significant +2.60% CAR over a 14 day-period, though daily abnormal returns are small and not significant; Downgrades show no significant abnormal return. Abnormal returns around the public access date are small and not significant, indicating that the information conveyed by reports has already been incorporated into prices. The analysis of trading volumes substantially confirm the preceding results. Our data reveal that no reaction is induced by the publication of reports. Research reports seem to convey information to the market but such information is incorporated in stock prices around the event day, that is when brokerage firms' customers - that pay for research - receive it.
This paper studies the effect of investor sentiment on analysts' consensus recommendations. Our results show that the optimistic bias of analysts in the issuing of recommendations is affected by investor sentiment: the greater the investor sentiment, the more optimistically biased the analysts’ consensus recommendations. This bias is larger in stocks whose characteristics make them hard to value or to arbitrage. We also show that investor sentiment can help in the design of profitable strategies, particularly when taking the short position in portfolios with high sentiment sensitivity stocks.
We document several factors that help explain cross-sectional variations in the delayed price response to individual analyst forecast revisions. First, the market does not make a sufficient distinction between those analysts providing new information and others simply "herding" toward the consensus. Second, the market responds more completely to "celebrity" analysts, and under-weights revisions by obscure, but highly accurate, analysts. Third, controlling for firm size, the market price adjustment is more complete for firms with wider analyst coverage. Moreover, a significant portion of the delayed price response is corrected around future earnings news events, particularly forecast revisions by other analysts. Taken together, these findings show that qualitative aspects of an earnings signal can affect the speed and efficacy of the price formation process.
We compare the long-term stock price and operating performance of firms that are followed by analysts to those that are not over the period of 1994-2005. While analysts are skillful in identifying quality firms for coverage, the market is efficient in pricing both covered and neglected stocks such that risk-adjusted stock returns are compatible between the two groups. However, dumped stocks consistently outperform covered stocks with significant risk-adjusted returns across different market conditions and regulatory environments. Hence, investors might earn better returns by investing in dumped stocks, but the higher returns may represent compensation for greater search costs and information risk associated with investing in these stocks.
The information value of analysts' recommendations is particularly enhanced by taking an industry perspective. Three benefits emerge. First, we show that analyst recommendation changes provide signals that can be used to successfully rank future relative underperforming and outperforming stocks within industries. When this ranking is used to form industry-neutral portfolios, the return-to-risk ratio improves almost 100% relative to portfolios in which industry weighting is ignored. The value of analyst recommendation signals, examined with the industry perspective, is remarkably consistent through time. Industry-neutral portfolio Sharpe ratios are six times larger than those of typical price momentum strategies. Second, examining recommendation information by industry permits the disentanglement of the value added by analysts from the well-documented price momentum anomaly. Equal-industry-weighted recommendation portfolios have greatly reduced loadings on price momentum relative to un-weighted strategies. Third, the industry perspective permits an examination of the link between analyst recommendation information, aggregated at the industry level, and industry returns. Industry returns precede industry-aggregated analyst information in the next month, suggesting that analysts take strong cues from recent industry returns in revising their opinions on stocks they follow. Perhaps more interestingly, however, we do not find that industry-aggregated analyst recommendation information predicts future relative underperforming and outperforming industries in any meaningful, incremental way.
We provide a selective survey of empirical evidence on the effects as well as the drivers of persuasive communication. We consider persuasion directed at consumers, voters, donors, and investors. We organize our review around four questions. First, to what extent does persuasion affect the behavior of each of these groups? Second, what models best capture the response to persuasive communication? Third, what are persuaders' incentives, and what limits their ability to distort communications? Finally, what evidence exists on the way persuasion affects equilibrium outcomes in economics and politics?
The main purpose of this paper is to examine accounting information which can be of poor quality for some industries because
uniform regulation applies to all. However, there is a strong demand for reliable accounting data even when the quality of
the data is poor. Consistent with this premise, I show that among young NASDAQ listings the valuation coefficient on BVE is
higher and that on earnings is not lower for intangible-intensive ventures than for other firms. I also show that GAAP OCF
provides additional information that enhances the quality of earning information. This results in a shift in valuation weight
from BVE to earnings for intangible-intensive young NASDAQ listings. However, these phenomena do not appear for intangible-intensive
S&P 500 firms listed on NYSE. My results suggest that variations in the demand for reliable financial data affect the valuation
coefficients on earnings and BVE.
KeywordsNASDAQ and NYSE–Demand for accounting information–Valuation
This paper studies short-selling prior to the release of analyst downgrades in a sample of 670 downgrades of Nasdaq stocks between 2000 and 2001. We find abnormal levels of short-selling in the three days before downgrades are publicly announced. Further, we show that this pre-announcement abnormal short-selling is significantly related to the subsequent share price reaction to the downgrade, and especially so for downgrades that prompt the most substantial price declines. Our findings are robust to various controls that might also affect short-selling such as pre-announcement momentum, three-day pre-announcement returns, and announcement-day share price. In addition, the results are independent of scheduled earnings announcements, analyst herding, and non-routine events near downgrades. Further evidence suggests that tipping is more consistent with the data than the prediction explanation which posits that short sellers successfully predict downgrades on the basis of public information about firms' financial health. Finally, we present evidence that downgraded stocks with high abnormal short-selling perform poorly over the subsequent six months by comparison with those with low abnormal short-selling. Overall, our results support the hypothesis that short sellers are informed traders and exploit profitable opportunities provided by downgrade announcements.
Tesis doctoral inédita. Universidad Autónoma de Madrid, Facultad de Ciencias Económicas y Empresariales. Fecha de lectura: 10-12-09 Bibliogr. y direcciones web : h. 312-340
Thesis (Ph. D.)--University of Washington, 2003 This paper tests for investor optimism in IPO firms by examining excess returns around sell-side-analyst revisions of recommendations. I pose the corrections hypothesis and the learning hypothesis. According to the corrections hypothesis, if investors correct their initially optimistic expectations, they should react more negatively to analyst upgrades and downgrades of IPO firms relative to benchmark non-IPO firms. A competing hypothesis is the learning hypothesis, which posits that investors should respond more positively to upgrades and more negatively to downgrades of IPO firms relative to benchmark non-IPO firms, because they learn more from all information events about new, immature firms. Examining benchmark performance-adjusted-excess-returns around all revisions issued in the first 3 years after IPO issue, I find that investors do learn more from analyst revisions for IPO firms. However the magnitude of the response to upgrades and downgrades is asymmetric. The negative response around downgrades dominates the positive response around upgrades. Overall, the abnormal return from a typical 3-day period around all revisions is -1.80%. This correction is economically significant, and makes up 47.43% of the long-run underperformance of a typical IPO firm. This result is robust to different specifications of benchmark firms.
Text mining and machine learning methodologies have been applied to biomedicine and business domains for new relationship and knowledge discovery. Company annual reports (or 10K filings), as one of the most important mandatory information disclosures, have remained untapped by the text mining and machine learning community. Previous research indicates that the narrative disclosures in company annual reports can be used to assess the company's short-term financial prospects. In this study, we apply text classification methods to 10K filings to systematically assess the predictive potential of company annual reports. We specify our research problem along five dimensions: financial performance indicators, choice of predictions, evaluation criteria, document representation, and experiment design. Different combinations of the choices we made along the five dimensions provide us with different perspectives and insights into the feasibility of using annual reports to predict company future performance. Our results confirm that predictive models can be successfully built using the textual content of annual reports. Mock portfolios constructed with firms predicted by the text-based model are shown to produce positive average stock return. Sub-sample experiments and post-hoc analysis further confirm that the text-based model is able to catch the textual differences among firms with different financial characteristics. We see a rich set of research questions with the promise of further insight in this research area.
The business media play an active role in influencing stock prices. Statistically significant excess returns at the time of the publication of stock recommendations have been documented many times. Frequently these abnormal gains begin to accumulate long before the publication date. In most cases they reach their highs on the day the recommendations are disseminated to the public. With few exceptions a price reversal sets in shortly thereafter: Excess returns in recommended stocks are at least partially given up. Many stocks now enter a period of underperformance, earning significant negative returns. The return reversions indicate that such stock price reactions are due to price pressure from "naive" investors hoping to profit from the experts. However, most media lack any real information that is not yet reflected in stock prices. In short: There is no evidence that stock recommendations published in the media offer any systematic opportunity to outperform the market. The evidence leads to the opposite conclusion: That investors who follow such advice will lose in the long run.
The paper addresses two core questions: do investment banks’ recommendations have an impact on the allocation of portfolio flows in the emerging-markets asset class? Above all, are these recommendations related to the business of investment banks? In order to answer these questions, we constructed a unique database covering the period 1997-2006 for all the bond recommendations made by the major investment banks that dominate the emerging bond markets. The most important findings are as follows: 90 per cent of the underwriters recommend buying or maintaining in their portfolios the bonds issued by the countries where they are acting as lead managers; and investment banks’ recommendations are also correlated with the relative size of the secondary bond market. In fact, there is a phenomenon that we call “too big to underweight” meaning that investment banks do not send negative signals to investors of countries that, given their size, are considered important for their business. Finally, by using panel data analysis, we found that the impact of investment banks’ recommendations on portfolio capital flows is more significant and more predictable than some macroeconomic variables such as interest rate, economic growth and inflation rate. The first of the three major policy lessons at stake is that there is a need for more detailed information disclosure by investment banks in order to determine if past recommendations are related to macroeconomic variables and financial variables or whether they are associated with the investment banks’ business in emerging economies. Second, government agencies should do a strategic monitoring on what market is writing about their respective country vulnerabilities. Finally, given that banks’ recommendations and portfolio flows are related, an international co-operation scheme could be established to encourage investment banks to cover more countries.
L’article pose deux questions clés : est-ce que les recommandatio
We find that analysts who issue more accurate earnings forecasts also issue more profitable stock recommendations. The average factor-adjusted return associated with the recommendations of analysts in the highest accuracy quintile exceeds the return for analysts in the lowest accuracy quintile by 1.27% per month. Our findings provide indirect empirical support for valuation models in the accounting and finance literatures (e.g., Ohlson, 1995) that emphasize the role of future earnings in predicting stock price movements. Our results also suggest that imperfectly efficient markets reward information gatherers, such as security analysts, for their costly activities in generating superior earnings forecasts.
Using a large database of analysts' target prices issued over the period 1997-1999, we examine short-term market reactions to target price revisions and long-term comovement of target and stock prices. We find a significant market reaction to the information contained in analysts' target prices, both unconditionally and conditional on contemporaneously issued stock recommendation and earnings forecast revisions. Using a cointegration approach, we analyze the long-term behavior of market and target prices. We find that, on average, the one-year-ahead target price is 28 percent higher than the current market price. Copyright (c) 2003 by the American Finance Association.
Brokerage analysts frequently comment on and sometimes recommend companies that their firms have recently taken public. We show that stocks that underwriter analysts recommend perform more poorly than 'buy' recommendations by unaffiliated brokers prior to, at the time of, and subsequent to the recommendation date. We conclude that the recommendations by underwriter analysts show significant evidence of bias. We show also that the market does not recognize the full extent of this bias. The results suggest a potential conflict of interest inherent in the different functions that investment bankers perform. Article published by Oxford University Press on behalf of the Society for Financial Studies in its journal, The Review of Financial Studies.
A study of one brokerage house's recommendations to its individual customers during the 1960s suggests that they were genuinely valuable, even after allowing for transactions costs and risk. On the other hand, the recommendations were useful in selection, rather than in market timing: The ratio of buys to sells varied little over the period studied. Abnormal returns were associated primarily with buy, rather than sell, recommendations. Positive in the six months prior to the recommendation, they peaked in the month of recommendation and remained essentially zero thereafter. One possible explanation is that, in the months prior to being recommended, companies enjoyed abnormal prosperity accompanied by a series of favorable news items. Their prosperity caught the attention of the brokerage house, whose research staff than uncovered additional positive news, encapsulating in recommendations to customers what might otherwise have been several more months of slowly emerging information. If large positive returns in the month of the recommendation were merely the result of trading pressure induced by the recommendation, those returns would have been followed by reversals. The absence of such reversals suggests that the brokerage house's recommendations were associated with genuine changes in the value of the securities.
An analysis of new buy and sell recommendations of stocks by security analysts at major U.S. brokerage firms shows significant, systematic discrepancies between prerecommendation prices and eventual values. The initial return at the time of the recommendations is large, even though few recommendations coincide with new public news or provide previously unavailable facts. However, these initial price reactions are incomplete. For buy recommendations, the mean postevent drift is modest (+2.4%) and short-lived, but for sell recommendations, the drift is larger (-9.1%) and extends for six months. Analysts appear to have market timing and stock picking abilities.
This study shows that financial analysts of brokerage firms that provide investment banking services to a company (investment banker analysts) are optimistic, relative to other (noninvestment banker) analysts, in their earnings forecasts and investment recommendations. Returns earned by following the investment recommendations of investment banker analysts, however, are not significantly different from those of non-investment banker analysts. Given that information regarding the investment banking relationships of brokerage firms is publicly available, we find evidence that capital market participants rely relatively less on the investment banker analysts in forming their earnings expectations. Although we find a significant capital market reaction around the noninvestment banker analysts' research report dates and not around the investment banker analysts' research report dates, the difference between the two market reactions is not statistically significant. Finally, we find that investment banker analysts' earnings forecasts are, on average, as accurate as those of noninvestment banker analysts.
We document that purchasing (selling short) stocks with the most (least) favorable consensus recommendations, in conjunction with daily portfolio rebalancing and a timely response to recommendation changes, yield annual abnormal gross returns greater than four percent. Less frequent portfolio rebalancing or a delay in reacting to recommendation changes diminishes these returns; however, they remain significant for the least favorably rated stocks. We also show that high trading levels are required to capture the excess returns generated by the strategies analyzed, entailing substantial transactions costs and leading to abnormal net returns for these strategies that are not reliably greater than zero.
This study analyzes the effect of second-hand information on the behavior of security prices and volume using analysts' recommendations published in the monthly “Dartboard” column of the Wall Street Journal. For the two days following the publication of the recommendations, average positive abnormal returns of 4 percent—nearly twice the level of abnormal returns documented in previous research on analyst recommendations—and average volume double normal volume levels on the two days following publication of the recommendations are documented. The positive abnormal return on announcement is partially reversed within 25 trading days. The authors conclude that the positive abnormal return on announcement of the recommendations is a result of naive buying pressure as well as the information content of the analysts' recommendations.
This paper identifies five common risk factors in the returns on stocks and bonds. There are three stock-market factors: an overall market factor and factors related to firm size and book-to-market equity. There are two bond-market factors, related to maturity and default risks. Stock returns have shared variation due to the stock-market factors, and they are linked to bond returns through shared variation in the bond-market factors. Except for low-grade corporates, the bond-market factors capture the common variation in bond returns. Most important, the five factors seem to explain average returns on stocks and bonds.
We analyze the empirical power and specification of test statistics in event studies designed to detect long-run (one- to five-year) abnormal stock returns. We document that test statistics based on abnormal returns calculated using a reference portfolio, such as a market index, are misspecified (empirical rejection rates exceed theoretical rejection rates) and identify three reasons for this misspecification. We correct for the three identified sources of misspecification by matching sample firms to control firms of similar sizes and book-to-market ratios. This control firm approach yields well-specified test statistics in virtually all sampling situations considered.
We examine the effect of underwriting relationships on analysts' earnings forecasts and recommendations. Lead and co-underwriter analysts' growth forecasts and recommendations are significantly more favorable than those made by unaffiliated analysts, although their earnings forecasts are not generally greater. Investors respond similarly to lead underwriter and unaffiliated `Strong buy' and `Buy' recommendations, but three-day returns to lead underwriter `Hold' recommendations are significantly more negative than those to unaffiliated `Hold' recommendations. The findings suggest investors expect lead analysts are more likely to recommend `Hold' when `Sell' is warranted. The post-announcement returns following affiliated and unaffiliated analysts' recommendations are not significantly different.
We analyze tests for long-run abnormal returns and document that two approaches yield well-specified test statistics in random samples. The first uses a traditional event study framework and buy-and-hold abnormal returns calculated using carefully constructed reference portfolios. Inference is based on either a skewness-adjusted "t"-statistic or the empirically generated distribution of long-run abnormal returns. The second approach is based on calculation of mean monthly abnormal returns using calendar-time portfolios and a time-series "t"-statistic. Though both approaches perform well in random samples, misspecification in nonrandom samples is pervasive. Thus, analysis of long-run abnormal returns is treacherous. Copyright The American Finance Association 1999.
An analysis of new buy and sell recommendations of stocks by security analysts at major U.S. brokerage firms shows significant, systematic discrepancies between prerecommendation prices and eventual values. The initial return at the time of the recommendations is large, even though few recommendations coincide with new public news or provide previously unavailable facts. However, these initial price reactions are incomplete. For buy recommendations, the mean postevent drift is modest (+2.4 percent) and short-lived, but for sell recommendations, the drift is larger (-9.1 percent) and extends for six months. Analysts appear to have market timing and stock picking abilities. Copyright 1996 by American Finance Association.
Previous estimates of a 'size effect' based on daily returns data are biased. The use of quoted closing prices in computing returns on individual stocks imparts an upward bias. Returns computed for buy-and-hold portfolios largely avoid the bias induced by closing prices. Based on such buy-and-hold returns, the full-year size effect is half as large as previously reported, and all of the full-year effect is, on average, due to the month of January.
This paper issues a warning that compounding daily returns of the Center for Research in Security Prices (CRSP) equal-weighted index can lead to surprisingly large biases. The differences between the monthly returns compounded from the daily tapes and the monthly CRSP equal-weighted indices is almost 0.43 percent per month, or 6 percent per year. This difference amounts to one-third of the average monthly return, and is large enough to reverse the conclusions of a paper using the daily tape to compute the return on the benchmark portfolio. We also investigate the sources of these biases and suggest several alternative strategies to avoid them. Copyright The American Finance Association 1998.
The performance of Value Line Investment Survey recommendations made between 1965 and 1978 is evaluated by applying a future benchmark technique. The future benchmark technique avoids selection bias problems associated with using historic benchmarks as well as known difficulties of using Capital Asset Pricing Model benchmarks. Potential problems (implicit in the technique) are discussed and resolved within the conduct of the experiment. Results indicate statistically significant abnormal performance when future benchmarks are computed using a market model.
Using a sample free of survivor bias, the author demonstrates that common factors in stock returns and investment expenses almost completely explain persistence in equity mutual funds' mean and risk-adjusted returns. Darryll Hendricks, Jayendu Patel, and Richard Zeckhauser's (1993) 'hot hands' result is mostly driven by the one-year momentum effect of Narasimham Jegadeesh and Sheridan Titman (1993), but individual funds do not earn higher returns from following the momentum strategy in stocks. The only significant persistence not explained is concentrated in strong underperformance by the worst-return mutual funds. The results do not support the existence of skilled or informed mutual fund portfolio managers. Copyright 1997 by American Finance Association.
The authors examine the performance of common stock recommendations made by prominent money managers at Barron's Annual Roundtable from 1968 to 1991. To avoid survivorship bias, they examine the performance of recommendations by all the participants. The buy recommendations earn significant abnormal returns of 1.91 percent from the recommendation day to the publication day, a period of about fourteen days. However, the abnormal returns are essentially zero for one to three year postpublication day holding periods. Thus, an individual investing according to the Roundtable recommendations published in in Barron's would not benefit from the advice. Copyright 1995 by American Finance Association.
This paper describes an empirical study of over 4000 specific share return forecasts made by 35 UK stockbrokers and by the internal analysts of a large UK investment institution. A comparison of forecast and realised returns reveals a small but potentially useful degree of forecasting ability. A large part of the information content of the forecasts, however, appears to be discounted in the market place within the first month. Nevertheless, an analysis of some 3000 transactions motivated by, and executed at the time of, the forecasts shows that the apparent predictive ability of the recommendations could be translated into superior performance by the fund's investment managers. Differences in forecasting ability between brokers do not appear to persist over time, but predictive accuracy can be improved by pooling simultaneous forecasts from different sources.