Sell‐Side Analyst Research and Stock Comovement

We document that a stock's price around a recommendation or forecast covaries with prices of other stocks the issuing analyst covers. The effect of shared analyst coverage on stock price comovement extends beyond analyst activity days. A stock's daily returns covary with the returns of other stocks with which it shares analyst coverage. These links between stock price comovement and shared analyst coverage are consistent with the coverage‐specific information we find in earnings forecasts; analysts who cover both stocks in a pair expect future earnings of the stocks to be more highly correlated than do analysts who cover only one stock from the pair. Collectively, our evidence indicates that analyst research produces coverage‐specific spillovers that raise price comovement among stocks that share analyst coverage. The strength of these spillovers is comparable to spillovers from broad industry and market information in analyst research.     

A comprehensive long-term analysis of S&P 500 index additions and deletions

We investigate the long-term effects of S&P 500 index additions and deletions on a sample of stocks from 1962 to 2003 and find a significant long-term price increase for both added and deleted stocks, with deleted stocks outperforming added stocks. The long-term price increase for added stocks can be attributed to increases in institutional ownership, liquidity, and analyst coverage, and a decrease in the shadow cost in the long-term. However, while deletion has no significant effect on analyst coverage and shadow cost, we find a rebound in the institutional ownership and liquidity of deleted stocks. The difference in the long-term price increase of added and deleted stocks can be explained by analyst coverage and operating performance.     

Business strategy,stock price informativeness,and analyst coverage efficiency

We examine how business strategy affects stock price informativeness which in turn influences analyst coverage efficiency. Using stock price synchronicity and the probability of informed trading as proxies for stock price informativeness, we show that stock prices of prospectors are less informative than those of defenders. Next, we explore two channels through which business strategy influences analyst coverage efficiency. We first test and find support for an information transfer channel, i.e., the higher stock price synchronicity of prospectors facilitates more information transfer by analysts, resulting in higher analyst coverage efficiency of prospectors than defenders. Next, we test and find support for an informed trading channel, i.e., the higher probability of informed trading on stocks of defenders intensifies competition between informed traders and analysts. Such competition adversely affects analyst coverage efficiency, leading to lower analyst coverage efficiency of defenders than prospectors. Our findings are robust to an array of robustness checks including 2SLS/IV tests, differences‐in‐difference tests, and high‐tech industry sensitivity analyses.     

Style drift: Evidence from small-cap mutual funds

This paper documents that small-cap mutual funds allocate on average 27% of their portfolio to mid- and large-cap stocks. We find that larger and older small-cap funds are more likely to hold mid- and large-cap stocks, consistent with funds straying from their objective over time. Funds that invest heavily in mid- and large-cap stocks expose their investors to unanticipated risks but investors do not experience higher abnormal returns or performance persistence overall. These funds did outperform their peers by 3% annually in the most recent period between January 2003 and March 2010.     

Active investment manager portfolios and preferences for stock characteristics

The present study investigates the stock characteristic preferences of institutional Australian equity managers. In aggregate we find that active managers exhibit preferences for stocks exhibiting high‐price variance, large market capitalization, low transaction costs, value‐oriented characteristics, greater levels of analyst coverage and lower variability in analyst earnings forecasts. We observe stronger preferences for higher volatility, value stocks and wider analyst coverage among smaller stocks. We also find that smaller investment managers prefer securities with higher market capitalization and analyst coverage (including low variation in the forecasts of these analysts). We also document that industry effects play an important role in portfolio construction.     

Star Analysts,Overreaction, and Synchronicity: Evidence from China and the United States

This paper examines star analyst coverage, investor overreaction, and stock price synchronicity in the Chinese and US markets. In China, we find that star analyst coverage can induce investor overreaction, such that it is negatively correlated with price synchronicity. This overreaction effect is particularly pronounced for stocks with primarily individual investors. In contrast, in the United States, we find that star analyst coverage is positively related to synchronicity and is not significantly associated with investor overreaction. Our overall findings imply that the heterogeneous nature of investors in a market drives the association among star analyst coverage, overreaction, and stock price synchronicity.     

Financial integration and the price of world covariance risk: Large- vs. small-cap stocks

We investigate whether recent country-level evidence of global pricing is particular to large-cap stocks. Specifically, we examine cross-country return correlations and conduct asset pricing tests on three size-based stock portfolios for nine developed countries over the period from 1980 to 2004. We find that large-cap stocks realize significant comovements across countries, whereas small-cap stocks realize smaller average correlations (relative to both large-cap stocks and small-cap stocks across countries). More important, asset pricing tests suggest that while large-cap stocks are priced globally, global pricing is rejected for most small-cap stocks. Finally, the evidence indicates that financial integration deepened in recent years primarily for large-cap stocks. Overall, the results suggest that the global pricing pertains chiefly to large-cap stocks.     

Stock index adjustments and analysts’ forecast optimism: A quasi-natural experiment on the CSI 300 Index

As stock index adjustments comprise a basic system of capital market, their potential influence on analysts’ earnings forecasts is worthy of research. Based on a research sample of 23 adjustments to the CSI 300 Index from June 2007 to June 2018 and the backup stocks announced during the same period, this study examines the impact of additions to stock index on analysts’ forecast optimism using a staggered difference-in-differences model. The research results show that after stocks are added to the stock index, analysts’ earnings forecast optimism about these stocks increases significantly. Cross-sectional analysis indicates that this increase is more significant when the market is bullish, institutional ownership is low, the ratio of listed brokerage firms is low, star analyst coverage is low, firms show seasoned equity offering activity, the ratio of analysts from the top five brokerage firms ranked by commission income is high, and the analysts’ brokerage firms are shareholders. However, analyst-level tests find that analysts’ ability helps to reduce the impact of additions to stock index on earnings forecast optimism. Furthermore, additions to stock index significantly increase analyst coverage and forecast divergence. Economic consequences tests find additions to stock index significantly increases stock price synchronization, which is partly mediated by analysts’ earnings forecast optimism. This study enriches the literature on the impact of basic capital market systems and analyst behavior. The findings suggest that investors should rationally evaluate analysts’ earnings forecasts for stocks added to the stock index and obtain further information from various channels to improve asset allocation efficiency.     

Stock price synchronicity and analyst coverage in emerging markets

This paper examines the relation between the stock price synchronicity and analyst activity in emerging markets. Contrary to the conventional wisdom that security analysts specialize in the production of firm-specific information, we find that securities which are covered by more analysts incorporate greater (lesser) market-wide (firm-specific) information. Using the R² statistics of the market model as a measure of synchronicity of stock price movement, we find that greater analyst coverage increases stock price synchronicity. Furthermore, after controlling for the influence of firm size on the lead–lag relation, we find that the returns of high analyst-following portfolio lead returns of low analyst-following portfolio more than vice versa. We also find that the aggregate change in the earnings forecasts in a high analyst-following portfolio affects the aggregate returns of the portfolio itself as well as those of the low analyst-following portfolio, whereas the aggregate change in the earnings forecasts of the low analyst-following portfolio have no predictive ability. Finally, when the forecast dispersion is high, the effect of analyst coverage on stock price synchronicity is reduced.     

Did Regulation Fair Disclosure,SOX, and Other Analyst Regulations Reduce Security Mispricing?

Between 2000 and 2003 a series of disclosure and analyst regulations curbing abusive financial reporting and analyst behavior were enacted to strengthen the information environment of U.S. capital markets. We investigate whether these regulations reduced security mispricing and increased stock market efficiency. After the regulations, we find a significant reduction in short‐term stock price continuation following analyst forecast revisions and earnings announcements. The effect was more pronounced among higher information uncertainty firms, where we expect security valuation to be most sensitive to regulation. Analyst forecast accuracy also improved in these firms, consistent with reduced mispricing being due to an improved corporate information environment following the regulations. Our findings are robust to controls for time trends, trading activity, the financial crisis, analyst coverage, delistings, and changes in information uncertainty proxies. We find no concurrent effect among European firms and a regression discontinuity design supports our identification of a regulatory effect.     

Impact of MiFID II tick-size regime on equity markets—Evidence from the LSE

This study investigates the impact of MiFID II on the London Stock Exchange. We find that a tick-size reduction leads to lower bid–ask spreads, lower trade values, reduced cost of trading at and beyond the best bid-offer, an acceleration of quote updates, an increase in aggressive trades and a reduction in price impact. Increased tick size widens spreads and increases trading costs. Step functions reveal that liquidity adjusts opposite to the tick change. To determine if impacts are proportional, we identify potential functions that predict cost changes with tick updates, implying that traders adjust their trade sizes according to the new tick levels.     

Analyst coverage: Does the listing location really matter?

Using a count panel regression method, we find that the listing location really does matter as stocks listed on the main board (FTSE350) rather than the junior market (AIM) attract more analyst coverage than can be explained by existing factors, even when we control for listing requirements and the type of cross-listing. We also find that listing requirements have a significantly greater impact on the number of analysts following AIM companies rather than their FTSE350 counterparts. Moreover, pooling stocks from different listing locations can conceal additional differences in the determinates of analyst services for the main board and junior markets. For example, cross-listing on a stock exchange increases analysts coverage for FTSE350 stocks but not AIM stocks and listing on less transparent trading venues such as over the counter and alternative trading systems (dark pools) decreases analyst coverage, especially for AIM stocks.     

Short-sale constraints and informational efficiency to private information: A natural experiment

Exploiting a regulatory change in short-sale constraints (Regulation SHO) as a natural experiment, this paper examines the effect of short-sale constraints on informational efficiency of stock prices to private information. I find that short-sellers act as informed traders prior to forthcoming analyst news and trade on negative private information. When short-sale constraints are relaxed for pilot stocks (treatment group), both trading volume and stock price sensitivity increase prior to the analyst announcement for bad news but not for good news, relative to that of nonpilot stocks (control group). The findings are consistent with the Diamond and Verrecchia model that predicts that short-selling increases the speed of adjustment of stock prices to private negative information. In the cross-section, the effect of Reg SHO is stronger in stocks of firms with weak and uncertain information environments (i.e., small firms and firms with high analyst forecast dispersion).     

Is market impact a measure of the information value of trades? Market response to liquidity vs. informed metaorders

We examine a data-set of institutional trades where approximately one-fourth of the trades were labelled as having been created for cash flow purposes. We aggregate near-overlapping trades into metaorders and consider information, market impact and metaorder size. We find that during the execution, the functional form and scale of market impact are similar for cash flows and other metaorders. Differences arise in the price reversion following the end of a metaorder. For cash flows, presumed to have no true information content, the impact reverts almost completely on average in two to five days. For other metaorders, we find that reversion erases about one-third of the peak impact: for each size, price reverts to the average execution price, leaving no immediate profits after accounting for trading costs. Observed mark-to-market profits on metaorders that aggregate multiple portfolio manager orders, new metaorders and Nasdaq-listed stocks suggest that these metaorders are more informed than the average. Vice-versa, we find mark-to-market losses are more likely to occur on cash flows, metaorders in large-cap stocks, metaorders that follow momentum and additions to a prior position seeking to take advantage of an improved price. The complete price reversion for cash flows suggests that the mechanical permanent impact that is considered in no-quasi-arbitrage arguments would be much smaller than the information in typical institutional metaorders.     

Media Coverage and the Cross-section of Stock Returns

By reaching a broad population of investors, mass media can alleviate informational frictions and affect security pricing even if it does not supply genuine news. We investigate this hypothesis by studying the cross-sectional relation between media coverage and expected stock returns. We find that stocks with no media coverage earn higher returns than stocks with high media coverage even after controlling for well-known risk factors. These results are more pronounced among small stocks and stocks with high individual ownership, low analyst following, and high idiosyncratic volatility. Our findings suggest that the breadth of information dissemination affects stock returns.     

Leaning for the Tape: Evidence of Gaming Behavior in Equity Mutual Funds

We present evidence that fund managers inflate quarter-end portfolio prices with last-minute purchases of stocks already held. The magnitude of price inflation ranges from 0.5 percent per year for large-cap funds to well over 2 percent for small-cap funds. We find that the cross section of inflation matches the cross section of incentives from the flow/performance relation, that a surge of trading in the quarter's last minutes coincides with a surge in equity prices, and that the inflation is greatest for the stocks held by funds with the most incentive to inflate, controlling for the stocks' size and performance.     

The Two Faces of Analyst Coverage

We find that positive excess (strong) analyst coverage is associated with overvaluation and low future returns. This finding is consistent with the view that excessive analyst coverage, driven by investment banking incentives and analyst self-interests, raises investor optimism causing share prices to trade above fundamental value. However, weak analyst coverage causes stocks to trade below fundamental values. This finding indicates that investors tend to believe that these firms are more likely to be plagued by information asymmetries and agency problems. The results remain robust after controlling for the possible endogenous nature of analyst coverage and analysts' self-selection bias.     

Price informativeness and stock return synchronicity: Evidence from the pricing of seasoned equity offerings

We investigate what stock return synchronicity reflects in terms of price informativeness by examining its effect on the pricing of seasoned equity offerings (SEOs). Based on 5,087 SEOs from 1984 to 2007, we find a significantly negative relation between stock return synchronicity (estimated as the logit transformation of the R-squared statistic from a two-factor regression) and SEO discounts (the percentage differences between pre-offer day closing prices and offer prices). The negative relation is strongest when there is no analyst coverage, and it declines as analyst coverage increases. This shows that stock price is more informative when stock return synchronicity is higher and also that information asymmetry can be mitigated by analyst coverage. We further decompose stock return synchronicity into the market comovement and industry comovement components and find that both components are equally important in affecting SEO discounts.     

Does international cross-listing improve the information environment

We investigate whether cross-listing in the U.S. affects the information environment for non-U.S. stocks. Our findings suggest cross-listing has an asymmetric impact on stock price informativeness around the world, as measured by firm-specific stock return variation. Cross-listing improves price informativeness for developed market firms. For firms in emerging markets, however, cross-listing decreases price informativeness. The added analyst coverage associated with cross-listing likely explains the findings in emerging markets, rather than changes in liquidity, ownership, or accounting quality. Our results indicate that the added analyst coverage fosters the production of marketwide information, rather than firm-specific information.     

Anti-selective disclosure regulation and analyst forecast accuracy and usefulness

We investigate regulations intended to stop managers from privately disclosing corporate information to analysts in a setting with enhanced potential to isolate regulatory effects: the European Union (EU) Market Abuse Directive (MAD), a common regulation implemented by member states with varying sanctions and enforcement resources. Following the implementation of MAD in a country, analyst forecasts become more accurate, with relatively little of the effect attributable to increased voluntary public disclosure by covered firms. The effect of MAD on analyst accuracy is stronger in countries with more stringent enforcement and sanction systems. Although the improvement in accuracy is associated with the implementation of MAD alone, stock prices do not respond more strongly to analyst forecast releases until after market-trading enforcement improves under subsequent EU legislation (MiFID).