Analyst disagreement, forecast bias and stock returns
Published on Thu, Nov 23, 2006 at 15:22 | Source : Moneycontrol.com
Updated at Mon, Nov 27, 2006 at 12:06
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Analyst disagreement, forecast bias and stock returns
Analysts often operate under incentives that are inconsistent with telling the truth. Retail investors, who tend to be less sophisticated, may fail to make proper adjustments for the more nuanced of the resulting biases, some of which might be reflected in market prices.
I present evidence of inefficient information processing in equity markets by documenting that biases in analysts' earnings forecasts are reflected in stock prices. In particular, I show that investors fail to fully account for optimistic bias associated with analyst disagreement.
Anna Scherbina is an assistant professor in the Finance unit at Harvard Business School.
This bias arises for two reasons. First, analysts issue more optimistic forecasts when earnings are uncertain. Second, analysts with sufficiently low earnings expectations who choose to keep quiet introduce an optimistic bias in the mean reported forecast that is increasing in the underlying disagreement. Indicators of the missing negative opinions predict earnings surprises and stock returns. By selling stocks with high analyst disagreement institutions exert correcting pressure on prices.
