Analysts Are Good at Ranking Stocks

Abstract

Sell-side analysts' forecasts of future stock returns are highly biased and the aggregated consensus forecast is a poor predictor of future returns. In sharp contrast, we show that the information revealed through the implicit ranking of return forecasts conducted individually by each analyst is highly informative of subsequent returns. Long-short portfolios sorted on these rankings result in large and highly significant excess returns that cannot be explained by previous anomaly characteristics or information extracted from consensus forecasts. The strong performance of the relative ranking forecasts is most easily understood by noting their similarity with within-analyst demeaned forecasts. The latter are equivalent to removing each analyst's fixed effect and thus controlling in a general manner for unobservable analyst-specific biases, an effect which cannot be achieved when starting with the aggregated consensus forecast.

Keywords: Sell-side analysts, Cross-section of stock returns, Relative valuation, Target price

JEL Classification: G12, G14, G24