The Effect of Trading Volume on Analysts' Forecast Bias

43 Pages Posted: 28 Jun 2007 Last revised: 23 Oct 2010

See all articles by Anne Beyer

Anne Beyer

Stanford University - Graduate School of Business

Ilan Guttman

Leonard N. Stern School of Business, New York University; New York University - Stern Scholl of business

Date Written: September 27, 2010

Abstract

This study models the interaction between a sell-side analyst and risk-averse investors. It derives an analyst's optimal earnings forecast and investors' optimal trading decisions in a setting where the analyst's payoff depends on the trading volume the forecast generates as well as on the forecast error. In the fully separating equilibrium, we find that the analyst biases the forecast upward (downward) if his private signal reveals relatively good (bad) news.

The model predicts that: (i) the analyst biases the forecast upward more often than downward and the forecast is on average optimistic; (ii) the magnitude of the analyst's bias is increasing in the per share benefit from trading volume he receives; and (iii) the analyst's expected squared forecast error may increase in the precision of his private information. Finally, we characterize the circumstances under which the (rational) analyst acts as if he overweights or underweights his private information.

Keywords: Analysts' forecasts, forecast bias, trading volume, trading commission

JEL Classification: G29, M41, D82

Suggested Citation

Beyer, Anne and Guttman, Ilan, The Effect of Trading Volume on Analysts' Forecast Bias (September 27, 2010). Accounting Review, Vol. 86, No. 2, March 2011, Available at SSRN: https://ssrn.com/abstract=997114

Anne Beyer

Stanford University - Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

Ilan Guttman (Contact Author)

Leonard N. Stern School of Business, New York University ( email )

44 West 4th Street
Suite 9-160
New York, NY NY 10012
United States

New York University - Stern Scholl of business ( email )

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