Consensus Analyst Target Prices: Information Content and Implications for Investors

Abstract

Consensus analyst target prices are widely available online at no cost to investors. In this paper we consider whether these consensus target prices are informative for predicting future returns. We find that when considered in isolation, consensus target prices are not generally informative about future returns. However, we find that the dispersion of individual analysts’ target prices that comprise the consensus is an important moderating factor. When dispersion is low (high), there is a strong positive (negative) correlation between predicted returns based on the consensus target price and future realized returns. Further analyses suggest that this phenomenon is partially due to consensus target prices being slow to reflect bad news. In addition, we show that the negative correlation between consensus-based predicted returns and future realized returns for high-dispersion stocks exists only for stocks with high short interest or low institutional ownership, suggesting that limits to arbitrage play a role in the observed mispricing and that unsophisticated investors are negatively impacted by high consensus target prices.