The Effects of True and Perceived Ability on Analysts' Forecasting Behavior

Qi Chen, Wei Jiang
2001 Social Science Research Network  
We model the existence of an equilibrium in which analysts adopt a threshold reporting strategy to convey their forecasting ability. Under this strategy, an analyst issues a forecast only if the realized value of her private signal exceeds a threshold value. Higher-ability analysts choose higher threshold levels than lower-ability analysts, and the market correctly interprets all analysts' forecasts. Our model produces implications for using sample mean squared forecast error to measure
more » ... to measure analysts' ability, offers alternative explanation for the observed bias in analysts' forecasts, and produces testable predictions concerning analysts' decisions to follow a firm and to issue forecasts for firms they follow. * This research receives financial support from Fuqua School of Business, Duke University and Columbia Business School. We appreciate the helpful comments from ABSTRACT We model the existence of an equilibrium in which analysts adopt a threshold reporting strategy to convey their forecasting ability. Under this strategy, an analyst issues a forecast only if the realized value of her private signal exceeds a threshold value. Higher-ability analysts choose higher threshold levels than lower-ability analysts, and the market correctly interprets all analysts' forecasts. Our model produces implications for using sample mean squared forecast error to measure analysts' ability, offers alternative explanation for the observed bias in analysts' forecasts, and produces testable predictions concerning analysts' decisions to follow a firm and to issue forecasts for firms they follow.
doi:10.2139/ssrn.287233 fatcat:f2lhribgmzd7pbb7eo266ymtiy