How are analysts’ forecasts affected by high uncertainty?

Abstract

This study examines whether key characteristics of analysts' forecasts-timeliness, accuracy, and informativeness-change when investor demand for information is likely to be especially high, i.e., during periods of high uncertainty. Findings reveal that when uncertainty is high, analysts' forecasts are more timely but less accurate.However, analysts' forecasts are also more informative to the market, which is consistent with investors' demand for timely information, even if it is less accurate. We observe these findings when market prices are increasing and decreasing, consistent with the findings resulting from uncertainty in general rather than just uncertainty associated with market declines. We also examine how timeliness, accuracy, and informativeness change in response to elevated levels of three sources of uncertainty-market, industry, and firm level. We predict and find that analysts are better able to deal with heightened industry uncertainty, as reflected by greater timeliness with no loss in forecast accuracy. In contrast, analysts have greater difficulty dealing with heightened market uncertainty, as both timeliness and forecast accuracy decline. K E Y W O R D Searnings forecasts, financial analysts, uncertainty INTRODUCTIONEquity analysts play an important role in capital markets by interpreting public information relating to companies, industries, and the economy, and by developing private information to forecast future earnings and stock prices and to make stock recommendations. Investors rely on analysts' research reports, stock recommendations, and forecasts of earnings and other financial statement items as a source of information that provides a basis for investment decisions.The role of analysts is likely to be even more important during times of heightened uncertainty, when investors may have more difficulty interpreting public information relating to companies, industries, and the economy. High uncertainty implies there is less precise public information, which drives investor demand for information from analysts.Investors demand timely and accurate forecasts for use in valuation and investment decisions; however, uncertainty J Bus Fin Acc. 2018;45:295-318. wileyonlinelibrary.com/journal/jbfa

The time‐varying performance of UK analyst recommendation revisions: Do market conditions matter?

“…A very recent study by Loh and Stulz (2018) argues that the usefulness and performance of analysts could be dependent on bad market conditions, though little attention has been paid to this hypothesis. On the one hand, it is well known that bad market conditions tend to give rise to increased uncertainty (Bloom, 2009), so it should be more difficult for analysts to make accurate stock recommendations and earnings forecasts (see, e.g., Amiram et al., 2018; Chopra, 1998; Forbes, Murphy, O'Keeffe, & Su, 2020). Also, the decline in trading volume and hence broker profits in bad market conditions may reduce analysts’ performance rewards, leading to a decrease in analysts’ motivation.…”

“…In particular, in bad market conditions with high uncertainty, investors’ private information or information‐processing ability becomes much noisier, making it more difficult for them to understand the information contained in financial documents and to assess the consequences of uncertainty shocks. High uncertainty, therefore, drives investor demand for information from financial analysts, as they are more experienced and informed and better able to evaluate uncertainty shocks in bad market conditions (see, Amiram et al., 2018; Kacperczyk, Van Nieuwerburgh, & Veldkamp, 2016; Loh & Stulz, 2011). To the extent that the role of analysts is to make sense of firms in the face of uncertainty, they should work harder in bad market condition due to career concerns (Loh & Stulz, 2018).…”

“…They further argue that, in bad market conditions, analysts work harder and market investors rely more on analysts’ advice than on other information sources. This argument, however, does not seem to align with the common sense view that bad market conditions, such as financial crises and recessions, usually give rise to increased uncertainty, making it much harder for analysts to make accurate stock recommendations (see, Amiram, Landsman, Owens, & Stubben, 2018; Bloom, 2009; Chopra, 1998). For example, Barber, Lehavy, McNichols, and Trueman (2003) report that in the years of 2000 and 2001 after the dot‐com bubble burst, the most (least) favorable analyst recommendations lead to an average annualized abnormal return of –7.06% (13.44%).…”

Is Sell‐Side Research More Valuable in Bad Times?

“…Amiram et al. () examine analyst forecast timeliness during periods of high market uncertainty and find that analysts are less timely and underreact to news in these periods. However, investors still respond to forecasts in these periods even though these forecasts are more inaccurate.…”

“…Kretzmann, Maaz, and Pucker (2015) find that recommendations have a larger impact in recessions than in boom periods but buy recommendations do not predict future stock returns in recessions. Amiram et al (2017) examine analyst forecast timeliness during periods of high market uncertainty and find that analysts are less timely and underreact to news in these periods. However, investors still respond to forecasts in these periods even though these forecasts are more inaccurate.…”