Further Evidence on the Relation Between Analysts' Forecast Dispersion and Stock Returns

42 Pages Posted: 28 Oct 2008

See all articles by Orie E. Barron

Orie E. Barron

Pennsylvania State University

Mary Harris Stanford

Texas Christian University - Department of Accounting

Yong Yu

University of Texas at Austin

Date Written: 05 20, 2008

Abstract

Prior research reports seemingly conflicting evidence and interpretations concerning the relation between dispersion in analysts' earnings forecasts and stock returns. Diether et al. (2002) and Johnson (2004) find a negative relation between levels of dispersion in analysts' forecasts and future stock returns. Yet, changes in forecast dispersion are negatively associated with contemporaneous stock returns (L'Her and Suret 1996). We demonstrate that levels and changes in dispersion reflect different theoretical constructs. Changes in dispersion primarily reflect changes in information asymmetry whereas levels of dispersion primarily reflect levels of uncertainty. Further, the uncertainty component of dispersion levels reflects idiosyncratic risk that is negatively associated with future stock returns. These findings provide support for Johnson's (2004) explanation that dispersion levels reflect idiosyncratic uncertainty that increases the option value of the firm and generally refute Diether et al.'s (2002) explanation that dispersion levels reflect information asymmetry.

In addition, we reconcile L'Her and Suret's (1996) findings with the findings of Johnson (2004). We find that the negative association between changes in dispersion and contemporaneous stock returns is not due to increased uncertainty but rather increased information asymmetry.

JEL Classification: G29, G14, D82

Suggested Citation

Barron, Orie E. and Stanford, Mary and Yu, Yong, Further Evidence on the Relation Between Analysts' Forecast Dispersion and Stock Returns (05 20, 2008). Contemporary Accounting Research, Forthcoming, Available at SSRN: https://ssrn.com/abstract=1290882

Orie E. Barron

Pennsylvania State University ( email )

University Park, PA 16802-3306
United States
814-863-3230 (Phone)
814-863-8393 (Fax)

Mary Stanford

Texas Christian University - Department of Accounting ( email )

M.J. Neeley School of Business
TCU Box 298530
Fort Worth, TX 76129
United States
817-257-7483 (Phone)

Yong Yu (Contact Author)

University of Texas at Austin ( email )

1 University Station B6400
Austin, TX 78712
United States
(512)471-6714 (Phone)
(512)471-3904 (Fax)

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