On the Relation between Forecast Precision and Trading Profitability of Financial Analysts
26 Pages Posted: 31 Jan 2013 Last revised: 1 Jul 2017
Date Written: May 16, 2013
We analyze the relation between earning forecast accuracy and expected profitability of financial analysts. Modeling forecast errors with a multivariate Gaussian distribution, a complete characterization of the payoff of each analyst is provided. In particular, closed-form expressions for the probability density function, for the expectation, and, more generally, for moments of all orders are obtained. Our analysis shows that the relationship between forecast precision and trading profitability need not to be monotonic, and that, for any analyst, the impact on his expected payoff of the correlation between his forecasts and those of the other market participants depends on the accuracy of his signals. Furthermore, our model accommodates a unique full-communication equilibrium.
Keywords: financial analyst, forecast accuracy, recommendation profitability, full communication equilibrium
JEL Classification: M4, G14
Suggested Citation: Suggested Citation