LAWRENCE, Kan. (WIBW) – A University of Kansas study shows inconsistencies in equity analyst revisions may have rational explanations.
The University6 of Kansas says equity analysts produce outputs including stock recommendations, earning estimates and 12-month target prices, however, different outputs issued by the same analyst at the same time conflict with one another often.
KU says when investment banking deals are involved, analysts tend to appease management by revising recommendations or target price, while they try to be accurate for the earnings per share forecast. It says this sometimes results in the revisions going the other direction, which can be seen as inconsistent.
“Everybody has pressures that would lead to inconsistencies. That’s well-known in the prior literature. I wouldn’t deny that happens,” said Min Park, assistant professor of business at the University of Kansas. “But the bigger picture is that there is a rational reason behind these inconsistencies. Basically, there are accounting or economic factors why analysts revise their outputs in what looks to be an inconsistent manner.”
Park says his article, “Seemingly Inconsistent Analyst Revisions” is published in the Journal of Accounting and Economics.
Park says in research co-written with Michael Iselin and Andrew Van Buskirk, he found that in 20-30% of cases where an analyst revises two outputs at the same time, the estimates get revised in opposite directions. He says the study began by documenting the prevalence of discrepancies within the pairs.
“Prior literature associates analyst inconsistency mostly with conflicts of interest related to investment banking activities. Essentially, they are considered ‘bad analysts.’ It’s assumed because of conflicts of interest, they are behaving strategically.” Park says.
According to Par, the contradictory outputs are viewed as less valid by investors. He writes they “are neither less accurate than consistent outputs, nor do they resolve less investor uncertainty upon their release.”
Park says his results suggest researchers should remain cautious in interpreting such analyst outputs as a measure of bias or quality.
For example, Park says if an analyst is revising earnings estimates and target price on the same day for Tesla, they may revise them in different directions implying inconsistency in their work.
“But we are saying that’s not always true. They’re incorporating accounting and other economic factors into their valuation model. They’re totally rational in doing that, and just because they revised one output down and the other up, it doesn’t mean they’re foolish. We should not see that as less credible. They’re doing the right thing,” he said.
Park says before his academic career he was a sell side equity research analyst covering South Korean stocks.
“I’m not saying I know everything about the full picture, but as a former practitioner, I at least have some intuition about what’s going on behind these seemingly inconsistent revisions — because I was the one who actually did these things,” he said.
Park says as he completes his first year at KU his expertise is focused on capital markets and information intermediaries such as analysts and institutional investors.
Park says he is optimistic that his article may help those in his industry rethink how they view irregularities.
“Hopefully, academic researchers appreciate there are other rational factors behind these analyst revisions,” he said. “And also for practitioners and investors, they will consider those rational factors when they’re interpreting analyst outputs which are seemingly inconsistent.”
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