Analyst Revisions Research Articles

Evaluating analysts' value: evidence from recommendation revisions around stock price jumps

Recent studies document that analyst recommendation revisions tend to coincide with important corporate events, but offer mixed evidence on whether these revisions still contain significant information content. In this paper, we use large discontinuous changes, known as jumps, in stock prices as proxy for significant events and examine the information content of analyst revisions. We find that although recommendation revisions are more likely to be clustered around stock price jumps, they still contain significant information, especially those issued prior to jumps.

Large Price Changes and Subsequent Returns

We investigate whether large stock price changes are associated with short-term reversals or momentum, conditional on the issuance of analyst price target or earnings forecast revisions immediately following these price changes. Our study provides evidence that prices of stocks exhibit momentum when analysts issue revisions after large price shocks, and suggests that the initial price changes were indeed based on new information. In contrast, when price changes are not followed by immediate analyst revisions, we document short-term reversals, indicating that the initial price shocks were likely caused by liquidity or noise traders. A trading strategy that is based on the direction of the price change and the existence of analyst revisions in the same direction earns significant abnormal monthly returns (over 1%).

Eternal Sunshine: Are U.S. Analysts More Optimistic than Foreign Analysts?

A vast literature has documented an optimistic bias of U.S. analysts. This study compares the optimistic bias of U.S. analysts to that of foreign analysts. Using the implied rate of return in target prices, i.e., the ratio of the target price to the stock price one day before the target price announcement, we show that U.S. analysts are significantly more optimistic than their foreign peers, even after controlling for the same set of firms and the same economic conditions. Furthermore, we find U.S. analysts to be more optimistic for foreign-listed stocks, and not only for U.S.-listed stocks. Similar results are obtained for stock recommendations. In subsequent analysis, we find that investors are potentially aware of this bias, reacting more strongly to earnings forecast revisions of foreign analysts than to those of U.S. analysts.

Factors Influencing Changes In Analyst Consensus Recommendations: Evidence From The Johannesburg Stock Exchange

This paper builds on Prayag and van Rensburgs (2006) study that recognised the returns that can be generated by acting on changes in consensus recommendations on the Johannesburg Stock Exchange (JSE). It identifies factors that influence analysts to revise their recommendations based on style anomalies, momentum strategies, and market sentiment. Findings indicate that analysts recommendations on the JSE are driven by similar factors to those in other major markets with a propensity for favouring high-growth stocks with low value multiples. The results for tests in which variables are lagged for longer periods suggest that historical price changes have a more significant impact on analyst revisions than recent changes.

The information content of analyst recommendation revisions — Evidence from the Chinese stock market

The Chinese stock market has witnessed a dramatic increase of analyst coverage over the past years. While analyst revisions clearly exhibit optimistic biases, we find significant market reactions to both upgrades and downgrades. However, in contrast to findings in existing literature for other markets, our results show that market reactions to downgrades are generally weaker than to upgrades in the Chinese stock market. We examine two hypotheses, one related to short-sale restriction and the other to the behavior of individual investors, and show that the latter is a more plausible explanation of relatively weaker market reactions to downgrades in the Chinese stock market. Finally, we show that the added value of revisions cannot be entirely credited to a small group of “lead” analysts. Our study adds to the literature with findings on the role of analysts in emerging stock markets of unique institutional settings.

Audit committee accounting expertise, expectations management, and nonnegative earnings surprises

We investigate whether accounting expertise on audit committees curtails expectations management to avoid negative earnings surprises. Controlling for the endogenous choice of an accounting expert, we find that firms with an accounting expert serving on the audit committee exhibit: (1) less expectations management to avoid negative earnings surprises; (2) less nonnegative earnings surprises through expectations management; and (3) more nonnegative earnings surprises that are less susceptible to manipulations of both realized earnings and earnings expectations. We find, however, that the inclusion of an accounting expert on the audit committee curtails expectations management only in the interim quarters. While Brown and Pinello (2007) find a greater magnitude of downward revisions in analysts’ forecasts in the fourth quarter, they also document a lower incidence of nonnegative earnings surprises. Together, this suggests that with an accounting expert, audit committees likely view the fourth quarter downward revisions as driven more by guidance than by manipulation, thus focusing on curbing only expectations management in interim quarters.

The impact of analyst recommendations and revisions on the prices of JSE-listed companies

ABSTRACTThis study establishes that equity analyst recommendations have a significant short-term impact on share prices, by utilising an international database containing 31 363 analyst recommendations on JSE-listed and delisted companies, published over the period 1995 to 2011. In addition, two portfolio strategies were constructed. The first strategy shows that only investing in stocks with the most favourable consensus recommendations is associated with significant abnormal returns. The second strategy demonstrates that a portfolio consisting of recently upgraded stocks earns positive abnormal returns while a portfolio consisting of downgraded stocks is associated with negative abnormal returns.

Management Forecast Consistency

ABSTRACTWe posit that management forecasts, which are predictable transformations of realized earnings without random errors, are more informative than unbiased forecasts, which manifest small but unpredictable errors, even if biased forecasts are less accurate. Consistent with this intuition, we find that managers who make consistent forecasting errors have a greater ability to influence investor reactions and analyst revisions, even after controlling for the effect of accuracy. This effect is more economically significant and statistically robust than that of forecast accuracy. More sophisticated investors and experienced analysts are found to have a better understanding of the benefits of consistent management forecasts.

Factors associated with price reactions and analysts’ forecast revisions around SEC filings

We investigate the extent to which rapid accessibility of financial reports filed electronically through the Securities and Exchange Commission’s EDGAR system has affected the ability of investors and security analysts to use accounting data in pricing decisions and forecasting. Consistent with prior research, we find evidence confirming that stock price reactions to SEC filings are significant in the EDGAR period but not the pre-EDGAR period. We also find significant revisions in analysts’ one-quarter-ahead earnings forecasts around SEC filings dates in both the pre-EDGAR and EDGAR periods. The price and forecast revision evidence indicates that financial analysts have used SEC filings all along. However, it is the advent of EDGAR that has allowed individual investors to also use 10-K and 10-Q filings. Cross-sectional analyses indicate that in the EDGAR period, trading volume around the preceding earnings announcements may influence individual investors to react to SEC filings. In contrast, variables such as the earnings surprise and the level of total accruals attract the attention of financial analysts. Interestingly, analysts appear to have been less likely in the pre-EDGAR period to bear the cost of searching out each SEC filing to identify those with large total accruals, which are known only after examining the SEC filing itself.

Legislating stock prices

We demonstrate that legislation has a simple, yet previously undetected, impact on stock prices. Exploiting the voting record of legislators whose constituents are the affected industries, we show that the votes of these “interested” legislators capture important information seemingly ignored by the market. A long-short portfolio based on these legislators' views earns abnormal returns of over 90 basis points per month following the passage of legislation. Industries that we classify as beneficiaries of legislation experience significantly more positive earnings surprises and positive analyst revisions in the months following passage of the bill, as well as significantly higher future sales and profitability. We show that the more complex the legislation, the more difficulty the market has in assessing the impact of these bills. Further, the more concentrated the legislator's interest in the industry, the more informative are her votes for future returns.

Information interpretation or information discovery: which role of analysts do investors value more?

This study provides evidence that a significant percentage of analyst forecast revisions are issued promptly after a broad set of corporate public disclosures and that investors perceive these prompt revisions as more valuable than non-prompt revisions. These results hold for all revisions, non-earnings announcement triggered revisions, or revisions in weeks preceding earnings announcements, and are also robust to various sensitivity tests. Investors particularly value analysts’ prompt interpretation of earnings announcements or 8-K filings. To the extent that prompt revisions are more likely to reflect analysts’ information interpretation role, our results suggest that investors value more highly analysts’ ability to interpret public disclosure, especially less structured or non-financial disclosures. Unlike Ivkovic and Jegadeesh (2004) and Chen et al. (2010) which reach the opposite conclusion, we analyze analysts’ interpretation role with respect to a broader range of significant corporate disclosures than earnings announcements alone. We also provide evidence that analyst revisions made on the day of preliminary earnings announcements or the next day are significantly associated with excess returns, even after controlling for earnings and revenue surprises and accruals available in the announcements.

The intra-industry effects of chapter 11 filings: Evidence from analysts’ earnings forecast revisions

Shareholders suffer huge losses when firms they own file Chapter 11. Interestingly, even shareholders of rival companies experience statistically significant losses. We examine how the bad news associated with a bankruptcy filing is transferred to the filing firm’s rivals. Using revisions in analysts’ earnings forecasts as a proxy for changes in expected future cash flows, we find that after a bankruptcy filing the market revises downward its cash flow expectations for rivals. Regression analysis confirms a positive relation between changes in expected cash flow and stock market reactions. These findings are consistent with our hypothesis that bad news associated with bankruptcy filings are transferred to rivals through reductions in expected future cash flows

Analyst Recommendations, Mutual Fund Herding, and Overreaction in Stock Prices

This paper documents that mutual funds “herd” (trade together) into stocks with consensus sell-side analyst upgrades, and herd out of stocks with consensus downgrades. This influence of analyst revisions on fund herding is stronger for downgrades, and among managers with greater career concerns. These findings indicate that career-concerned managers are incentivized to follow analyst information, and have a greater tendency to herd on negative stock information, given the greater reputational and litigation risk of holding losing stocks. Further, during the more recent period (when aggregate mutual fund equity ownership is significantly higher), stocks traded by career-concerned herds of fund managers in response to analyst revisions experience a significant same-quarter price impact, followed by a sharp subsequent price reversal. Our evidence suggests that analyst recommendation revisions induce herding by career-concerned fund managers, and that this type of trading has become price-destabilizing with the increasing level of mutual fund ownership of stocks.

Analyst Consensus Revisions and Credit Rating Actions

I study the association between revisions in analysts’ consensus earnings forecasts and credit rating actions. Controlling for other information in the market, downwardly (upwardly) revised analyst consensus is associated with a higher likelihood of credit rating downgrades (upgrades) relative to rating affirmations; this association robustly exists in firms whose ex ante credit ratings are investment-grade. Rating actions are at best weakly associated, economically and statistically, with subsequent revisions in analyst consensus. The incremental relevance of analyst consensus revisions with respect to rating actions increases, especially in the case of impending rating downgrades, when firms voluntarily facilitate a more transparent information environment. Intertemporal test evidence casts doubt on the view that credit rating agencies possess an information advantage after Reg FD, but this evidence provides some support to the argument that in recent years, credit rating agencies may have improved their credit analyses.

Do financial analysts' long-term growth forecasts matter? Evidence from stock recommendations and career outcomes

Prior literature portrays long-term growth (LTG) forecasts as nonsensical from a valuation perspective. Instead, we hypothesize that LTG forecasts signal high effort and ability to analyze firms' long-term prospects. We document stronger market response to stock recommendation revisions of analysts who publish accompanying LTG forecasts. We also hypothesize and find that these analysts are less likely to leave the profession or move to smaller brokerage houses. Consistent with Reg. FD's intention to promote fundamental analysis of long-term earnings prospects, post-Reg. FD observations drive our results. Overall, we identify previously undocumented benefits accruing to analysts who publish LTG forecasts.

Do Financial Analysts’ Long-Term Growth Forecasts Matter? Evidence from Stock Recommendations and Career Outcomes

Prior literature refers to economic incentives to generate investment banking business and trading commissions as explanations for analyst publication of forecasts of firms’ long-term earnings growth (LTG). Prior research also documents wildly optimistic LTG forecasts and a negative relation between LTG forecasts and subsequent excess returns. Thus, the literature portrays analysts’ LTG forecasts as nonsensical from a valuation perspective. We introduce and investigate a new perspective on the value-relevance of analyst publication of LTG forecasts. We hypothesize that analysts issuing LTG forecasts signal relatively high effort and ability in developing perspective of the subject firms’ long-term prospects. Consistent with this hypothesis, we find that the stock market responds more strongly to the stock recommendation revisions of analysts who publish accompanying LTG forecasts. In addition, we hypothesize and find that analysts issuing LTG forecasts are less likely to leave the profession or move to smaller brokerage houses. Consistent with Reg. FD’s intention to restrict analyst access to insider information and promote fundamental analysis of the valuation implications of firms’ long-term prospects, we find that post-Reg. FD observations drive most of our results. Overall, we identify previously undocumented benefits accruing to analysts who publish LTG forecasts.

An examination of the effects of management earnings forecast form and explanations on financial analyst forecast revisions

Abstract Using a sample of 978 quarterly management earnings-per-share forecasts made during the period 1993 to 1999, we document that financial analyst revisions to management earnings forecasts are a function of management forecast form. More precise forecasts (measured three different ways) lead to greater revision of financial analyst consensus EPS forecasts for a given level of unexpected earnings as predicted by Kim and Verrecchia (1991) and Bayesian adjustment models. Also, consistent with our arguments, maximum forecasts are interpreted as bad news by analysts. Our results, while consistent with theory, are inconsistent with recent experimental studies which do not reject the null hypothesis of no effect of management earnings forecast form on the association between unexpected earnings and financial analyst forecast revisions. We also re-examine Baginski, Hassell, and Kimbrough's (2004) finding that attributions used to explain management forecasts affect the reaction to the forecast using analyst data. Consistent with their findings using stock prices, the attribution presence (especially external attributions) increases financial analyst revisions pursuant to management forecasts.

Idiosyncratic Volatility and Market Reaction to Recommendation Revisions

This paper shows that firm-specific uncertainty as measured by the estimated conditional idiosyncratic volatility (Eivol) is the most significant determinant of the initial market reaction to revisions in analysts’ recommendations. The mean three-day abnormal return following recommendation downgrades among the firms in the highest Eivol decile is -7.90%, as compared to -1.26% for the firms in the lowest Eivol decile. Similarly, for upgrades, the highest and the lowest Eivol deciles of stocks earn 5.22% and 1.29% three-day abnormal returns, respectively. This result is robust to controlling for firm size, book-to-market, systematic risk, past return performance, and lagged idiosyncratic volatility. This paper further shows that the higher perceived value of information provided by all-star analysts is significant in all Eivol groups, and that it is significantly related to the level of Eivol for downgrades. Finally, we find that the herding among analysts is greater for stocks with higher conditional idiosyncratic volatility. Overall, the finding that revisions are perceived to be more valuable for firms with greater firm-specific uncertainty is consistent with the notion that analysts mostly provide firm-specific information.

The Impact of Investor Relations Disclosure on Analysts’ Forecasts

Investor relations represents a firm’s commitment to communicate effectively with the external community which includes investors and analysts and both mandatory and voluntary information release is expected to reduce information asymmetry. We investigate the effects of disclosure quality on corporate websites on several properties of analyst forecasts, including accuracy, dispersion and revision volatility. We find more extensive disclosure through investor relations in S&P/ASX 300 firms over the time period investigated and increased disclosure quality leading to more accurate forecasts and less revision volatility, These findings emphasise the importance for firms to communicate effectively with analysts, whose earnings forecasts form the basis of the market’s expectation of firm performance.

Overinvestment, corporate governance, and dividend initiations

Firms with low Tobin's Q and high cash flow have significantly more positive dividend initiation announcement returns than do other firms. I interpret this result as consistent with the hypothesis that reductions in the agency costs of overinvestment at firms with poor investment opportunities and ample cash flow are reflected in higher dividend initiation announcement returns. Further tests, such as examining the impact of governance metrics on initiation announcement returns following the dividend tax cut of 2003 and examining the long-run cash-retention policies of dividend-initiating firms, are consistent with this interpretation. There is also some evidence that is consistent with the cash flow signaling hypothesis, as dividend-initiating firms with low Tobin's Q and low pre-initiation cash flow experience substantial revisions in analysts' earnings forecasts and significantly positive initiation announcement returns.