Using Analysts' Characteristics in Gauging Recommendation Optimism and the Implications for Recommendation Profitability*

53 Pages Posted: 11 Sep 2007

See all articles by Jian Cao

Jian Cao

Florida Atlantic University

Date Written: August 2007

Abstract

Prior research suggests that sell-side analysts are, on average, biased toward issuing overly optimistic "Buy" recommendations that do reflect their true beliefs about equity values. Given this claim, I construct a measure of analyst optimism based on both the favorableness and valuation relevance of a stock recommendation. Relying on this measure, I examine whether the characteristics of individual analysts are linked to the underlying bias and value in stock recommendations. I find that analysts who embody superior research attributes are less likely to provide biased recommendations. I also show that the link between analysts' characteristics and optimism can predict recommendation profitability. Trading strategies conditional on both analysts' optimism and characteristics significantly outperform those relying solely on optimism. Finally, evidence suggests that new research analyst rules have enhanced the role of analyst characteristics in mitigating recommendation bias and the ability of investors to recognize the differences in the bias across analysts.

Keywords: recommendation optimism, research analyst rules, residual income valuation, stock returns

JEL Classification: C12, G12, G14, G28, G29

Suggested Citation

Cao, Jian, Using Analysts' Characteristics in Gauging Recommendation Optimism and the Implications for Recommendation Profitability* (August 2007). Available at SSRN: https://ssrn.com/abstract=1013548 or http://dx.doi.org/10.2139/ssrn.1013548

Jian Cao (Contact Author)

Florida Atlantic University ( email )

777 Glades Rd.
Boca Raton, FL 33431
United States
561-297-3727 (Phone)

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