International Evidence on Analyst Stock Recommendations, Valuations, and Returns

Abstract

This is the first large study to examine the relation between analysts’ stock recommendations, earnings forecasts, and future excess stock returns in an international context. We first document that some of the peculiar findings established in the U.S. extend to other countries where individual investor participation in the stock market is high (especially when Japan is excluded from the sample). Specifically, we find that analysts’ recommendations relate positively to simple heuristics but negatively to more rigorous residual income valuation estimates (scaled by price). Furthermore, residual income valuation estimates relate positively to future returns, indicating their usefulness to investors, while analysts’ recommendations and heuristics relate negatively to future stock returns. In contrast, in countries with low investor participation rates, these peculiar findings are less observable. In these countries, analysts appear to rely relatively more on residual income valuation estimates in setting their recommendations, and these recommendations relate positively to future returns. The overall results are consistent with analysts’ recommendations being influenced by economic incentives other than identifying mispriced stocks in countries with high investor participation rates, substantiating puzzling results in the U.S.

Keywords: Analysts, international, valuation, earnings forecasts, stock recommendations, investor participation, investor protection

JEL Classification: G29, G14, G15, K22