Incentives and the Dispersion Effect ChuanYang Hwang Yuan Li 2 Puzzle Diether Malloy and Scherbina 2002 A negative crosssectional relationship between dispersion in analysts earnings forecasts and future stock return ID: 208790
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Analysts’ Incentives and the Dispersion Effect
Chuan-Yang Hwang
Yuan LiSlide2
2
Puzzle (Diether, Malloy and Scherbina
(2002) )
A negative cross-sectional relationship between dispersion in analysts’ earnings forecasts and future stock return
(the dispersion
effect).Slide3
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Explanations in the LiteratureDMS: (Miller 1977) difference of opinion
Johnson (2004): information risk
Sadka
and
Scherbina
(2007
):analyst disagreement and
information asymmetry
Commonalities:
Dispersion is viewed as an exogenous variable
Measure as information uncertainty, cause of lower stock returnSlide4
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Our explanation: Analysts’ incentive of not fully downward revising their forecasts when they possess bad news would simultaneously increase forecast dispersion and induce an upward bias in consensus forecasts, and stock price.Slide5
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Analysts’ Incentive to issue optimistic opinionsInvestment banking business (Dugar et al. (1995), Lin and McNichols (1998,2005), Dechow et al. (2000), Michaely and Womack (1999) )Trading Volume ( Cowen et al. (2006) , P.J.Irvine (2001))
Access to managers’ information (Francis and Philbrick (1993), Das, Levine, Sivararnarkrishnan (1998), Lim (2001))
Career Concern ( Hong and Kubik (2003) )Slide6
Incentives are more pervasive among firms have bad yet publicly unknown information:
Non-incentive driven analysts—downward revise forecasts promptlyIncentive driven analysts-reluctant to downward revise--dispersion increase and an upward bias in consensus forecast6Slide7
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3.0
2.5
2.0
2.5
2.0
1.5
Bad
News
-0.5
3.0
Dispersion Increase
Upward Bias:0.5/3Slide8
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Supporting Result (1)The dispersion effect exists only among bad news firms.Slide9
Supporting Result (2)
Analysts’ incentive, change in dispersion, and upward bias in consensus forecasts increase with level of dispersion among bad news firms.9Slide10
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Supporting Result (3) After controlling for incentive-induced upward bias embedded in consensus earnings forecasts, the dispersion
effect disappears.Slide11
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Supporting Result (4)Firms with low information uncertainty exhibits stronger dispersion effects as high forecast dispersion is more likely
to
be generated by analysts’ incentive.Slide12
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