72nd Seminar on Finance and Accounting

Topic: Analyst Forecast Inefficiency in Reaction to Earnings News: Cognitive Bias

vs. Economic Incentives

 

 PresenterChansog (Francis) Kim Associate Professor of Accounting, City University of Hong Kong

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Time:  May 16, 2008(Friday)300430 PM    

 

Venue:   Room 501, Jiageng Bld 2

 

Chair: Xinrong Qiang, associate professor in accounting, IFAS

 

 

Abstract:

 

This study examines whether and to what degree analyst forecast optimism and

misreaction to earnings news are driven by cognitive bias and/or economic incentives, such as

the incentive to gain access to insider information, to create investment banking business for their

employers and to boost trading. We find that I/B/E/S analysts’ initial forecasts after annual

earnings announcement are optimistic and analysts overreact (underreact) to good (bad) news in

prior-year earnings changes. Both analysts’ optimism and inefficient reaction to different states of

earnings news become more pronounced as information uncertainty increases. We do not find

significant differences in misreactions to earnings news between Value Line and I/B/E/S analyst

forecasts. Optimism is significantly lower in the Value Line forecasts than in I/B/E/S forecasts.

The findings are consistent with the notion that broker-analysts specific economic incentives such

as the incentives to boost trading and to promote investment-banking are mostly reflected in their

forecast optimism, not in their misreaction to earnings news. Finally we find no evidence of

significant misreaction to earnings news post-Regulation Fair Disclosure (FD), whereas we still

observe a significant, albeit reduced, optimism post-FD, particularly when uncertainty is high. In

sum these results are more consistent with the notion that analyst forecast misreaction to

earnings news pre-FD was driven by analysts’ incentives to maintain access to managerial

information. However, optimistic bias seems to be driven by both economic incentives and

cognitive bias.

 

 Presenter Introduction

 

Prof. Kim received his B.A. degree in Economics from Sogang University Korea, MBA from Western Illinois University, and Ph.D. degree in Accounting from Baruch College of City University of New York. His research interest includes financial accounting, management accounting and international accounting.

 

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