Equity Analysts an Earnings Forecasts Flashcards
Why analyst are optimistic?
Regardless broker system, analysts tend to issue 3 types recommendations and most are BUY, meaning on average analysts are optimistic. But why are they biased towards BUY?
- Analysts compensate by attracting companies as an IB client
- Creating incentive that they get through commission by producing research that encourages investors to trade.
- Fear of being ignored or being blacklisted buy recommending sell rates continuously. ( Anglo Irish sell ratings by Seamus Murphy and Ronan Hurley - blacklisted them)
No analyst is better than the others for forecasting earnings
3 different studies found analysts forecast were tend to be closer to the actual EPS than a simple regression! A study of All-America Analysts found no evidence that analysts for all-America analyst team were chosen because they were good at it. However their earnings revisions have much more impact on the stock price ie their recommendation had a greater impact on stock price.
While analyst recommendations are always optimistic why their forecasts are nearly always pessimistic?
Management used to signal about their key numbers of performance that they expect in the future, however as we advanced to post dotcom bubble this guidance has become managements attempt to influence analysts and streets expectation as the reporting date nears
Assuming analyst accepts the ready meal from their research subject company it will create a win win situation for both. (As a result investor relations handle this task such that analysts have no contact with management of their subject company)
But analyst does set the bar deliberately low regardless of their contact with the subject’s management. Because they themselves don’t want to be seen as over optimistic.
What is analyst herding?
The process by which analysts allow themselves to be walked down with the consensus is called herding.
Because they concerned about their career and safety
What is a walk down ?
It is an analyst attempt to make a beatable forecast. What happens is that they reduce their forecasts until closer to the reporting day but as it gets evident that the forecasts look not reliable they start to talk about the next years earning before everybody realizes the walk down
Does forecast accuracy matters?
Surely it matters these are reasons
- Job security
- Reputation - it is crucial factor for an analyst
- Bonus - portion of remuneration is tied to the accuracy, but this is a questionable area a lot of banks realized analysts do walk downs
- II rankings
International difference between analysts
Uk place more importance on
Macroeconomic and political events
Managements formal EPS forecast
Company news
US place more importance
Other analysts forecast
Informal guidance a from management and supply chain
Analysts 5 sins
Tunnel vision being so focused
- Strong urge of herding
- Stockholm syndrome - if manager of a subject becomes friend of an analyst
- Tendency to base recommendations on story not on facts like comprehensive model
- Analyst thinking his primary job is to bring IB business to the firm.
