Analyzing the Analysts: When Do Recommendations Add Value?

Abstract

We show that, consistent with economic incentives, analysts from sell-side firms generally recommend "glamour" (i.e., positive momentum, high growth, high volume, and relatively expensive) stocks. Naive adherence to these recommendations can be costly, because the level of the consensus recommendation adds value only among stocks with favorable quantitative characteristics (i.e., high value and positive momentum). Among stocks with unfavorable quantitative characteristics, higher consensus recommendations are associated with worse subsequent returns. In contrast, the quarterly change in the consensus recommendation is a robust return predictor that appears to contain information orthogonal to a large range of other predictive variables.

Keywords: Analyst, Stock recommendations, Market efficiency, Investment, Trading rules, Quantitative analysis, Fundamental analysis

JEL Classification: G12, G14, G21, G24, G29