Deal Making and Stock Picking: Better Be Optimistic than Good?

Posted: 13 Aug 2006 Last revised: 2 May 2009

See all articles by Michel J. Fleuriet

Michel J. Fleuriet

University of Pennsylvania - The Wharton School

Jinghua Yan

SAC Capital Advisors; University of Pennsylvania - Wharton Financial Institutions Center

Date Written: August 11, 2006

Abstract

The common wisdom about sell-side analysts is that their recommendations tend to be overly optimistic under the pressure from their investment banking colleagues. This paper answers the question whether it is the optimistic analyst or the good analyst (an analyst with superior stock-picking ability) who increases the chance of winning equity mandates for investment banks. We find that analysts' recommendation performance can explain their investment banks' chance of winning future mandates. There is a positive relation between the performance of an analyst's recent buy and strong buy recommendations and his bank's chance of winning future underwriting mandates. On the other hand, the relation between an analyst's optimism and his bank's chance of winning future mandates is weakly negative. The results are robust after controlling for analyst and investment bank characteristics as well as past investment banking relationship. We conjecture that stock-picking earns analysts credibility among investors and this reputation plays an integral role in investment banks' underwriting process. And we document anecdotal evidence to support our conjecture. The key finding of this paper identifies a countervailing force to the well-documented incentives for analysts to be optimistically biased. The current organization structure of investment banks, i.e., the affiliation between equity research and investment banking, has been blamed for analysts' optimism due to the conflict of interest problem. The feedback effect identified in this paper suggests that the affiliation also provide analysts with incentive to be good rather than optimistic.

Keywords: analyst, investment bank

Suggested Citation

Fleuriet, Michel J. and Yan, Jinghua, Deal Making and Stock Picking: Better Be Optimistic than Good? (August 11, 2006). Available at SSRN: https://ssrn.com/abstract=923909

Michel J. Fleuriet

University of Pennsylvania - The Wharton School ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

Jinghua Yan (Contact Author)

SAC Capital Advisors ( email )

330 Madison Avenue, 35th Floor
New York, NY 10017
United States

University of Pennsylvania - Wharton Financial Institutions Center ( email )

2306 Steinberg Hall-Dietrich Hall
3620 Locust Walk
Philadelphia, PA 19104
United States

Do you have negative results from your research you’d like to share?

Paper statistics

Abstract Views
753
PlumX Metrics