Understanding the Determinants of Analyst Target Price Forecasts

58 Pages Posted: 23 Mar 2014 Last revised: 7 Oct 2019

See all articles by Patricia Dechow

Patricia Dechow

USC Marshall School of Business

Haifeng You

Hong Kong University of Science & Technology (HKUST) - Department of Accounting

Date Written: March 28, 2019

Abstract

We investigate the determinants of analysts’ target price forecasts and evaluate their relative importance for explaining the cross-sectional variation in target price implied returns. We identify four broad determinants: the informational component predictive of future stock returns, errors in forecasting fundamentals, errors in forecasting the expected return to risk, and biases relating to analysts’ incentives. Our findings indicate that analysts have a limited ability to predict short-term future returns, and incorrect fundamental forecasts marginally impact target price valuations. Errors in forecasting the expected return to empirical risk proxies such as beta and idiosyncratic volatility have the greatest impact and induce significant noise and optimism into target prices. Job-related incentives induce incremental optimism in target prices. We use our target price determinants model to predict the optimistic bias in target price forecasts and evaluate whether investors correctly ignore the predictable bias. The results suggest that investors make similar valuation errors to analysts and/or do not perfectly back out the predicted bias in target prices.

Keywords: target price forecasts, risk, growth, forecast errors, stock volatility, predictable bias, financial analysts, incentives, implied return, future return, market efficiency

JEL Classification: M40, M41, G14

Suggested Citation

Dechow, Patricia and You, Haifeng, Understanding the Determinants of Analyst Target Price Forecasts (March 28, 2019). Available at SSRN: https://ssrn.com/abstract=2412813 or http://dx.doi.org/10.2139/ssrn.2412813

Patricia Dechow (Contact Author)

USC Marshall School of Business ( email )

Los Angeles, CA 90089-0441
United States

Haifeng You

Hong Kong University of Science & Technology (HKUST) - Department of Accounting ( email )

Clear Water Bay
Kowloon
Hong Kong

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
603
Abstract Views
3,201
rank
48,810
PlumX Metrics