Analyst Conflicts and Research Quality

This paper examines how the quality of stock analysts' forecasts is related to conflicts of interest from investment banking and brokerage. We consider four aspects of forecast quality: accuracy, bias and frequency of revision of quarterly earnings forecasts, and relative optimism in long-term earnings growth (LTG) forecasts. Using a unique dataset that contains the revenue breakdown of analysts' employers among investment banking, brokerage, and other businesses over the 1994-2003 period, we establish two main findings. First, there appears to be no relation between accuracy or bias in quarterly forecasts and several measures of conflict severity, after controlling for forecast age, firm resources and analyst workloads. This result holds even for technology stocks and during the late 1990s stock market boom. Second, relative optimism in LTG forecasts and the frequency of revision of quarterly earnings forecasts are positively related to the importance of brokerage business to analysts' employers. Additional tests suggest that quarterly forecast revisions occur for purposes other than purely to provide investors with timely, accurate forecasts. Overall, our results on LTG forecasts and forecast revision frequency suggest that brokerage conflicts are important in shaping analysts' forecasting behavior