By Sebastian Gell
Earnings forecasts are ubiquitous in today’s monetary markets. they're crucial symptoms of destiny company functionality and a kick off point for enterprise valuation. tremendous misguided and overoptimistic forecasts throughout the latest monetary difficulty have raised critical doubts concerning the reliability of such forecasts. This thesis accordingly investigates new determinants of forecast error and accuracy. moreover, new determinants of forecast revisions are tested. extra particularly, the thesis solutions the subsequent questions: 1) How do analyst incentives bring about forecast mistakes? 2) How do adjustments in analyst incentives bring about forecast revisions?, and three) What components force variations in forecast accuracy?
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Extra info for Determinants of Earnings Forecast Error, Earnings Forecast Revision and Earnings Forecast Accuracy
Within a fiscal year, I distinguish between determinants of the initial and final forecast error. 2 Determinants of the initial forecast error Analysts incorporate available infonnation in their earnings estimates. However, for more than 20 years researchers bave been debating whether aoalysts err in rationally processing publicly available information (cognitive bias explanotion). Analysts' underreaction is inferred from the positive correlations between serial aoalysts' earnings forecast errors (Mendenhall 1991, AbarbanelllBernard 1992, AJiJKlein/Rosenfeld 1992) or between forecast errors and preceding return changes (Abarhanell 1991).
34 A negative association is expected regarding the following factors: • Earnings uncertainty (DlSP) Analyst incentives to maintain good relationships to a firm's management, in order to obtain future information, leads to an increase in the optimism bias when earnings are less predictable (DasILevinelSivaramakrishnan 1998). Thus, downward revision during the year should be even more negative when earnings uncertainty is higb. • Trading volume (TV) Trading volume is a proxy for analyst incentives to generate additional business (trading commissinns) by issuing optimistic earnings forecasts (Hayes 1998).
Beside the indirect way via the relationship with the employing brokerage house or investment bank, the forecasted firm can directly affect analyst earnings expectation by the amount and content of information released to the respective analyst. 2 The Chines~ Walls between dcparbncnts should help each department to work independently from internal conflicts of interests. For example. dence from the investment banking department However, in personal conversations analysts have told me that it is still common practice that research outputs are heavily influenced by these internal conflicts.