Investment Banks’ Research Activities in the Post-Reform Era: Are Analysts’ Conflicts of Interest Still Alive?

Abstract

In this paper, we identify a channel where affiliated banks maintain a positive gap between the implied return (computed from target price) of the corporate client stock and that of the client’s peer. This behavior is triggered after the business deal disclosure when investment banks, including those sanctioned in the Global Research Settlement Act, are most likely to exploit such conflicts. The client’s high institutional ownership and target prices issued in isolation exacerbate the implied return gap. We show that the subsequent sanctions incurred for the violation of Financial Industry Regulatory Authority’s rules effectively discourage the affiliated investment banks to favor their corporate clients via the client-peer channel.

Keywords: Conflicts of interest, Financial analysts, Global Research Settlement Act, Product market competition, Target prices

JEL Classification: G24, G28, K22, K42