Government Incentives and Financial Intermediaries: The Case of Chinese Sell-Side Analysts

Abstract

We examine how government ownership in brokerage firms influences analyst research quality in the Chinese context. When the government has strong incentives to prop up market prices, analysts from brokerages with significant government shareholdings (government-brokerage analysts) issued relatively less pessimistic (or more optimistic) earnings forecasts and revisions and more favorable stock recommendations; they were also slower to revise. Although less accurate than those issued by other brokerages, these forecasts significantly influenced investors' beliefs. During regular times, government-brokerage analysts issued relatively less optimistic (more pessimistic) earnings forecasts and revisions and less favorable stock recommendations; they were also quicker to revise and no less accurate than those by other brokerages. Government-brokerage analysts thus balance market credibility against government incentives. In doing so, they serve both market advisory and stabilization functions. We show that their market stabilization function also operates during times of high investor sentiment.