Buy-Side Analysts, Sell-Side Analysts, and Fund Performance: Theory and Evidence

47 Pages Posted: 26 Feb 2003

See all articles by Yingmei Cheng

Yingmei Cheng

Florida State University - College of Business

Mark H. Liu

University of Kentucky - Gatton College of Business and Economics

Jun Qian

Fanhai International School of Finance, Fudan University; University of Pennsylvania - Wharton Financial Institutions Center

Date Written: March 2004

Abstract

We examine the role of financial analysts in helping fund managers make better investment decisions. First, we model how a fund manager utilizes reports on a stock produced by two analysts: a biased sell-side analyst who works for an outside brokerage firm, and an unbiased buy-side analyst who is employed by the fund. The fund manager's action is based on her optimal weighting of the two reports. We demonstrate that the optimal weight put on the buy-side analyst's report increases when the quality of the buy-side analyst's signal on the stock increases, or when the quality of the sell-side analyst's signal decreases, or when the sell-side analyst's degree of bias increases, or when the uncertainty in the bias of the sell-side analyst increases. Second, using a unique data set of U.S. equity funds, we find, consistent with our model, that fund managers rely more on buy-side research relative to sell-side and other research, when: 1) sell-side analysts' coverage on the stocks held by the fund decreases, 2) the average error in sell-side analysts' earnings forecasts on these stocks increases; 3) the size of assets under fund management is larger; and 4) the fund offers performance-based fees. Finally, we find that fund performance improves when the buy-side analysts are more experienced, or when the fund's reliance on buy-side research increases.

Keywords: buy-side analyst, sell-side analyst, bias, earnings forecasts, excess return

JEL Classification: G2, D8, G1

Suggested Citation

Cheng, Yingmei and Liu, Mark H. and Qian, Jun, Buy-Side Analysts, Sell-Side Analysts, and Fund Performance: Theory and Evidence (March 2004). 13th Annual Utah Winter Finance Conference. Available at SSRN: https://ssrn.com/abstract=383060 or http://dx.doi.org/10.2139/ssrn.383060

Yingmei Cheng

Florida State University - College of Business ( email )

423 Rovetta Business Building
Tallahassee, FL 32306-1110
United States
850-644-7869 (Phone)

Mark H. Liu

University of Kentucky - Gatton College of Business and Economics ( email )

550 South Limestone
Lexington, KY 40506
United States
859-257-9842 (Phone)
859-257-9688 (Fax)

Jun Qian (Contact Author)

Fanhai International School of Finance, Fudan University ( email )

Shanghai
China
86-21-63895501 (Phone)
86-21-62934572 (Fax)

HOME PAGE: http://www.fisf.fudan.edu.cn/show-65-69.html

University of Pennsylvania - Wharton Financial Institutions Center

2306 Steinberg Hall-Dietrich Hall
Philadelphia, PA 19104
United States

HOME PAGE: http://fic.wharton.upenn.edu/fic/

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