Analyst Coverage and Stock Price Crashes

Abstract:     
This paper empirically investigates the relation between analyst coverage and substantial stock price declines (crashes). Theory predicts that analysts should accelerate the disclosure of bad news, so that stocks with greater analyst coverage should crash more frequently. Yet theory also suggests that stocks with less analyst coverage will be more opaque, and when bad news is finally disclosed, their stock price will crash. Based on a sample of US stocks over the 1976-2009 period, we present results consistent with these predictions. We find that stocks followed by more analysts are more prone to crashes, supporting the notion that analyst coverage facilitates the disclosure of bad news. However, our evidence suggests that stocks with less analyst coverage tend to suffer more crashes around the times of earnings announcements when opaque corporations may be forced to report bad news. We document that crashes are more frequent after the passage of the Sarbanes-Oxley Act in 2002, presumably as a consequence of firms’ diminished ability to hide bad news. Finally, we document that firms followed by fewer analysts are more likely to delay the reporting of their earnings, especially when earnings are worse than expected.

Number of Pages in PDF File: 32

Keywords: Crash, Analyst, SOX

JEL Classification: G14, G18

working papers series