Surprising Absence of Scale for Forecast Error Magnitudes and Forecast Dispersion

37 Pages Posted: 24 Oct 2009

See all articles by Foong Soon Cheong

Foong Soon Cheong

Nanyang Technological University (NTU) - Division of Accounting

Jacob K. Thomas

Yale School of Management

Date Written: October 20, 2009

Abstract

While levels of actual and consensus forecast earnings per share (EPS) vary with scale (measured typically by share price), magnitudes of the difference do not vary with scale. That is, forecast errors within a certain range (e.g., plus/minus 5 cents per share) are equally likely for both high-price and low-price shares. We also find a similar lack of variation with scale for forecast dispersion, representing magnitudes of the difference between individual forecasts and the consensus (mean) for that firm-quarter. The prior literature has assumed that magnitudes of forecast errors (representing predictability) and forecast dispersion (representing disagreement across analysts) vary naturally with scale and has deflated both variables accordingly. We show that such scaling is likely to cause biased estimates, and recommend that scaling not be used, unless called for by theory. Regardless, a scale variable should be included as an additional regressor.

Keywords: Analyst Forecast, Predictability, Disagreement, Deflator

JEL Classification: G12, G14, G34, M41

Suggested Citation

Cheong, Foong Soon and Thomas, Jacob Kandathil, Surprising Absence of Scale for Forecast Error Magnitudes and Forecast Dispersion (October 20, 2009). Available at SSRN: https://ssrn.com/abstract=1493464 or http://dx.doi.org/10.2139/ssrn.1493464

Foong Soon Cheong

Nanyang Technological University (NTU) - Division of Accounting ( email )

Nanyang Business School
Singapore, 639798
Singapore

Jacob Kandathil Thomas (Contact Author)

Yale School of Management ( email )

135 Prospect Street
P.O. Box 208200
New Haven, CT 06520-8200
United States

Register to save articles to
your library

Register

Paper statistics

Downloads
334
Abstract Views
2,462
rank
91,127
PlumX Metrics