Part 8: The Role of Financial Analysts And The Investment Community

Question 1

“financial analyst”?

Answer 1

• Financial analysts are employed by both the “sell side” and the “buy side”.

• On the sell side, institutions offer products to institutional and retail clients. E.g.,
brokerage firms that buy and sell securities for their clients.
Sell-side financial analysts give buy, hold and sell recommendations, issue
forecasts and provide analysts reports. This information is publicly accessible.

• On the buy side, institutions make their own investment decisions. E.g., mutual funds or hedge funds that buy and sell securities in their own name.
Buy-side financial analysts use a variety of information sources (such as sell-side analyst reports) to produce investment recommendations for in-house portfolio managers. This information is not publicly accessible.

In the accounting literature, when we talk about “financial analysts” in general, we refer to sell-side financial analysts.

Question 2

“institutional investor”?

Why are institutional investors usually regarded as ‘informed’?

Answer 2

• Studies often treat institutional investors as one group of sophisticated market
participants with a high ability to process information.

• Yet, institutional investors are not a homogenous group. They differ in, for
instance, their organizational setup, regulatory provisions and the investment
objectives they pursue.

Question 3

Which different

categories of institutional investors uses Bushee (2001) ?

Answer 3

1. Based on legal form
   Bank trusts, insurance companies, investment advisers as well as pensions
   and endowments.
   Differences in legal form imply differences in fiduciary standards, disclosure requirements, regulatory oversight etc.
2. Based on investment horizon

Transient institutional investors: short-term focus, highly diversified
portfolios and high portfolio turnover;

Quasi-indexers: ‘longer-term’ focus, highly diversified but large portfolios
and passive, buy-and-hold investment strategies;

Dedicated institutional investors: long-term focus, concentrated and large
investments in a small set of portfolio firms, low portfolio turnover and a
‘relationship investing’ approach.

Question 4

Analyst Report Readability

Research question?

Answer 4

◦ high-ability analysts issue more readable reports?

◦ more readable reports are likely to increase trading volume?

Question 5

Analyst Report Readability

Factors of readability?

Answer 5

Reports are more readable when

• Analysts have high-ability
  
  • Positive and significant coefficients on Experience, Leader and Fcst Frequency
• Number of consistent forecast recommendation increases
  
  • Consistent analysts have less to cover up, or
  • Consistent analysts extrapolate forecast using only one model

Reports are less readable when

• Analysts cover multiple industries
• Firms are complex
• Revisions to forecast, recommendation or target price
• Earnings are negative

Question 6

Analysts Report Readability

Consequence on capital markets

Answer 6

Trading volume increases with

• Straightforwardness of language
• Magnitude of revisions to the tone of reports, forecast, recommendations and target price
• The release of other reports on the same day
• Magnitude of earnings news, management earnings forecast and complexity of the firm

Question 7

Analysts Report Readability : Conclusion

Answer 7

•Analyst’s reports are more spontaneous and timely communicated

•The paper utilized a large database of the text of analysts’ reports
from 2002 to 2009

•“High-ability” analysts issue reports that are more readable

•Trading volume reactions are increasing in the readability of
analysts’ reports