Abstract

http://ssrn.com/abstract=1543309
 
 

References (31)



 
 

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Reading the Tea Leaves: Why Serial Correlation Patterns in Analysts' Forecast Errors are not Evidence of Inefficient Information Processing


Juhani T. Linnainmaa


University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER)

Walter N. Torous


University of California, Los Angeles (UCLA) - Finance Area

December 20, 2010

Chicago Booth Research Paper No. 10-04
CRSP Working Paper

Abstract:     
This paper argues that an absence of serial correlation in forecast errors is not the appropriate benchmark for rational analyst behavior. We put forward a model that confronts analysts with two layers of uncertainty. An initial layer of uncertainty about firm-specific parameters leads analysts to underreact to signals from some firms and overreact to signals from others. A subsequent layer of uncertainty about the distributions from which these firm-specific parameters are drawn causes the null hypothesis of serially uncorrelated forecast errors to be frequently rejected despite being true. We then test our learning model’s predictions using IBES data, finding support for the view that analysts learn about individual firms in the face of time-varying model uncertainty.

Number of Pages in PDF File: 49

Keywords: Parameter uncertainty, learning, financial analysts

JEL Classification: G14, G24

working papers series


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Date posted: January 28, 2010 ; Last revised: December 22, 2010

Suggested Citation

Linnainmaa, Juhani T. and Torous, Walter N., Reading the Tea Leaves: Why Serial Correlation Patterns in Analysts' Forecast Errors are not Evidence of Inefficient Information Processing (December 20, 2010). Chicago Booth Research Paper No. 10-04; CRSP Working Paper. Available at SSRN: http://ssrn.com/abstract=1543309 or http://dx.doi.org/10.2139/ssrn.1543309

Contact Information

Juhani T. Linnainmaa (Contact Author)
University of Chicago - Booth School of Business ( email )
5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
(773) 834-3176 (Phone)
(773) 753-1052 (Fax)
HOME PAGE: http://faculty.chicagobooth.edu/juhani.linnainmaa
National Bureau of Economic Research (NBER) ( email )
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Walter N. Torous
University of California, Los Angeles (UCLA) - Finance Area ( email )
Los Angeles, CA 90095-1481
United States
310-825-4059 (Phone)
310-206-5455 (Fax)
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