The Value of Adjusting the Bias in Recommendations: International Evidence

23 Pages Posted: 2 Jan 2009

See all articles by Marina Balboa

Marina Balboa

University of Alicante - Department of Financial Economics

J. Carlos Gómez-Sala

affiliation not provided to SSRN

Germán López-Espinosa

University of Navarra

Abstract

The financial literature has shown that both earnings forecasts and investment recommendations are optimistically biased. However, while the bias in earnings forecasts has decreased over time and even some recent studies show that they are no longer optimistic, in the case of investment recommendations this bias still remains relatively constant over time. Therefore, it seems that recommendations are less credible to investors than earnings forecasts. The vast majority of recommendation studies have been carried out at the country level. In this paper, we use an international context to study whether profitable investment strategies exist when adjusting the recommendation bias of each analysed country. The adjustment we propose to correct this bias takes into account the differences across countries, and also varies in time to correct for the changes in bias over time within countries. Our empirical results show that there are in fact significant differences in the level of bias among countries, with the US and the UK being the countries with the highest bias. Second, the adjusted consensus portfolios are more orthogonal to typical investment styles (size, book-to-market and attention) and we find that investors could implement a higher number of profitable investment strategies using this adjusted measure. In this line, the results show that the countries with the lowest bias obtain the highest risk adjusted abnormal returns. Third, our work entails a practical implication, as it shows the value embedded in a simple necessary adjustment in the global asset management context. This is an important result showing that profitable investment strategies exist when considering a global portfolio based on adjusted recommendations.

Suggested Citation

Balboa, Marina and Gómez-Sala, J. Carlos and López-Espinosa, Germán, The Value of Adjusting the Bias in Recommendations: International Evidence. European Financial Management, Vol. 15, No. 1, pp. 208-230, January 2009. Available at SSRN: https://ssrn.com/abstract=1320679 or http://dx.doi.org/10.1111/j.1468-036X.2007.00421.x

Marina Balboa (Contact Author)

University of Alicante - Department of Financial Economics ( email )

Ctra. S. Vicente s/n
03690-S. Vicente del Raspeig
Alicante, San Vicente del Raspeig - Alicante 03690
Spain
+34 96 590 3400 Ext. 3135 (Phone)
+34 96 590 3621 (Fax)

J. Carlos Gómez-Sala

affiliation not provided to SSRN

No Address Available

Germán López-Espinosa

University of Navarra ( email )

Facultad de Ciencias Económicas y Empresariales
Edificio Amigos
Pamplona, Navarra 31080
Spain
+34 948425600 (Phone)
+34 948425626 (Fax)

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