Does equity analyst research lack rigour and objectivity? Evidence from conference call questions and research notes

Abstract

Tel ++44 (0) 1524 594242; Email s.young@lancaster.ac.uk. We are grateful for very helpful comments from two anonymous reviewers whose suggestions significantly improved the paper. Comments and suggestions were also provided by Kathleen AbstractDoubts have been raised about the rigour and objectivity of sell-side analysts' research due to institutional structures that promote pro-management behaviour. However, research in psychology stresses the importance of controlling for biases in individuals' inherent cognitive processing behaviour when drawing conclusions about their propensity to undertake careful scientific analysis. Using social cognition theory, we predict that the rigour and objectivity evident in analyst research is more pronounced following unexpected news in general and unexpected bad news in particular. We evaluate this prediction against the null hypothesis that analyst research consistently lacks rigour and objectivity to maintain good relations with management. Using U.S. firm earnings surprises as our conditioning event, we examine the content of analysts' conference call questions and research notes to assess the properties of their research. We find that analysts' notes and conference call questions display material levels of rigour and objectivity when earnings news is unexpectedly positive, and that these characteristics are more pronounced in response to unexpectedly poor earnings news. Results are consistent with analysts' innate cognitive processing response counteracting institutional considerations when attributional search incentives are strong. Exploratory analysis suggests that studying verbal and written outputs provides a more complete picture of analysts' work.

Analyst coverage and forecast accuracy when CSR reports improve stakeholder engagement: The Global Reporting Initiative‐International Finance Corporation disclosure strategy

“…Accordingly, we corroborate the view of Salzedo et al () that when analysts take a proactive position this enhances the information available to investors. Moreover, there is a complementary relationship between greater corporate transparency on CSR issues and the coverage provided by analysts, who act as information catalysts (Bozzolan et al, ; Dhaliwal et al, ; Ioannou & Serafeim, ; Luo et al, ).…”

“…In this respect, earlier studies have analysed the role played by analyst coverage in relation to information disclosure and its effect on the capital market. For example, Asquith, Mikhail, and Au (), Chen, Cumming, Hou, and Lee (), Chen, Ding, Hou, and Johan (), Salzedo, Young, and El‐Haj (), and Schantl (), among others, considered a model based on the substitutive or complementary relationship between analysts and corporate disclosure. The nature of this relationship depends on the information costs for analysts and on the interrelationship between management incentives/opportunism and their impact on company value.…”

“…We believe this relationship is complementary, because the analyst's forecast is still a potentially valuable source of information for investors even if they have access to information from other sources. The proactive role of analysts can enhance the information supplied to investors and hence overcome criticisms of their lack of rigour and independence (Salzedo et al, ).…”

Financial analysts’ role in valuation and stewardship

“…These findings differ from a prominent school of thought that analysts' research tends not to be neutral and is institutionalised by material conflicts of interest, as well as excessive reliance on firms' management (Fogarty and Rogers 2005, Kothari et al 2009, Huang et al 2014). The research of Salzedo et al (2018) has important implications for our understanding of analysts' role in equity valuation because it indicates that analysts can be proactive, rather than passive in their research, and can therefore enhance the information available to investors (arguably when this role is needed most). The findings challenge some of the arguments about the lack of rigour of analyst research and the lack of analyst independence.…”

“…Aiming to assess the validity of concerns about the rigour and objectivity of analysts' research, Salzedo et al (2018) apply manual content analysis and natural language processing methods to study the activities of US sell-side analysts. They form predictions, based on the cognitive processing literature, that analysts are more likely to undertake rigorous research when the firms they follow receive unexpected news.…”