Hype My Stock: Do Firms Really Want Biased Research?

Abstract

Analyst research is alleged to be biased because of conflicts of interest when analysts’ employers underwrite securities for the firms covered. I posit that affiliated analyst optimism should be the strongest for offering firms with a desire to over-inflate stock prices. I hypothesize that a firm’s corporate governance and its CEO incentives are related to the affiliation bias. Using stock recommendations data, I find evidence that the affiliation bias is indeed more pervasive for firms with high CEO wealth sensitivity to stock price (i.e., high CEO delta). The larger affiliation bias for high delta firms remains even after the introduction of regulatory reforms aimed at limiting analyst optimism. There is mixed evidence that firms with poorer corporate governance have more serious analyst affiliation biases. Examining event reactions to recommendations, I find that the market does not sufficiently discount the fact that affiliated analyst optimism is more serious for some firms. I also show post-offering evidence suggestive of quid quo pro in that hyping banks win more future deals for high delta firms while the firm’s CEO makes more insider stock sales.