DO ANALYSTS WHO MOVE MARKETS HAVE BETTER CAREERS?

• Date: 01 June 2018
• DOI: http://doi.org/10.1111/jfir.12144
• Published date: 01 June 2018

DO ANALYSTS WHO MOVE MARKETS HAVE BETTER CAREERS?

Vadim S. Balashov

Rutgers School of Business–Camden

Abstract

In this article I investigate the association between analysts’ability to issue influential

recommendations and their career outcomes. The fraction of recommendations that are

defined as influential are linked to a higher probability of an analyst moving to a higher

status brokerage house, and a lower probability of either being demoted to a lower status

brokerage house or leaving the profession. Analysts who more often issue influential

recommendations also have a higher chance of being ranked by Institutional Investor

All-America, having longer careers, and experiencing lower job turnover compared to

peers.

JEL Classification: D82, G11, G12, G14, G24, G28, K22, M41

I. Introduction

I examine the effects of analysts’ability to generate influential stock recommendations

on their career outcomes. Using various measures of career outcomes, I find that analysts

whose recommendations are associated with large stock price reactions have better

careers relative to their peers.

A classical view of sell-side financial analysts is that they act as information

agents in inefficient securities markets. They are employed by brokerage houses to

follow firms and find new firm-specific information, and they convey it to clients in one

of two observable reports: stock recommendations or earnings forecasts. The literature

has long examined attributes of analysts’reports that are of the most value to clients and

linked them to analysts’careers. For example, research suggests that accuracy and

analysts’ability to generate trading commissions and investment banking business affect

their compensation and careers.

1

However, this literature does not consider how analysts’

career outcomes relate to the influence that their reports have on stock prices. This is

surprising as the presence of a significant stock price reaction indicates whether

an analyst is successful at her most fundamental task—finding and conveying new

The author thanks Daniel Bradley, Chayawat Ornthanalai, the anonymous referee, Robert S. Hansen, Sheri

Tice, Paul Spindt, Suzanne S. Lee, Ivo Jansen, Zhanel DeVides, Eugene Pilotte, John Garger, and the participants

of the brown bag seminar at Rutgers School of Business–Camden for useful comments that helped improve the

paper.

1

For the literature on accuracy, see Eccles and Crane (1988), Dorfman (1991), Morgenson (1997), Mikhail,

Walther, and Willis (1999), Hong, Kubik, and Solomon (2000), Hong and Kubik (2003), and Jackson (2005). For

studies on optimism, see Dorfman (1991), Eccles and Crane (1988), Morgenson (1997), Jackson (2005), and Hong

and Kubik (2003).

The Journal of Financial Research Vol. XLI, No. 2 Pages 181–212 Summer 2018

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© 2018 The Southern Finance Association and the Southwestern Finance Association

firm-specific information. Stock price reactions to forecasts and recommendations are

economically and statistically large, averaging þ2% for up revisions and 2% for down

revisions (see Womack 1996; Stickel 1992, 1995; Francis and Soffer 1997; Brav and

Lehavy 2003; Gleason and Lee 2003; Ivkovic and Jegadeesh 2004; Clement and Tse

2005; Zhang 2008; Asquith, Mikhail, and Au 2005; Frankel, Kothari, and Weber 2006).

Loh and Stulz (2011) find that although analysts, on average, appear to be informed, only

a small portion of issued reports (i.e., influential recommendations) drives the result;

there is a large degree of variation in analyst influence, and only a small subset of analysts

convey new information.

It is important to study the subgroup of analysts who issue influential

recommendations because they are likely to possess traits that investors value. However,

no study assesses whether these analysts are rewarded in the labor market with better

career outcomes. Different from extant studies, I classify analysts based on their ability to

generate influential recommendations, and demonstrate that this characteristic affects

career outcomes positively. To gauge the effect of an analyst’s ability to issue influential

recommendation changes on her career, I develop an analyst-level measure of how often

she issues influential recommendation changes, on average. The measure, Influential

Score, is the portion of all recommendation changes issued by an analyst during a year

that caused a significant stock price reaction.

Following the literature (Mikhail, Walther, and Willis 1999; Hong, Kubik, and

Solomon 2000; Hong and Kubik 2003), I use several measures of career outcomes.

I assume that if an analyst moves to a higher status brokerage house, she experiences

positive job separation. If an analyst moves to a lower status brokerage house or leaves

the profession, job turnover is negative. I use various proxies to define high and low

statuses. I find that Influential Score relates to an analyst’s probability of being promoted,

demoted, or leaving the profession. The more often an analyst issues influential

recommendation changes, the more likely she is to move up to a higher status brokerage

house, and the less likely she is to move down or leave the profession. This relation is also

economically significant. For example, an analyst who issues only influential

recommendations is 20% to 25% less likely to be demoted or depart the profession

than an analyst whose recommendations are never influential.

Another possible career outcome is for an analyst to be ranked by Institutional

Investor’sAll-America team. Research suggests that top-ranked analysts have higher

compensation and better reputations (Stickel 1992; Michaely and Womack 1999; Hong

and Kubik 2003; Li 2002; Fang and Yasuda 2009, 2014). Being ranked by Institutional

Investor’sAll-America team is a highly desirable career outcome for sell-side analysts.

I examine the relation between the chances of getting on Institutional Investor’s list and

the ability of an analyst to issue influential recommendations. I find that the frequency of

issuing influential stock recommendations correlates positively with the probability of an

analyst being ranked by Institutional Investor’sAll-America team for the first time, but

not in repeat rounds.

The ability to issue influential recommendation changes might affect not only a

job outcome in a given year, but also careerwide characteristics. Such characteristics

include total career length, average employment length with one employer, frequency of

job switches (i.e., turnover), and getting on Institutional Investor’s list. I find that

182 The Journal of Financial Research

influential analysts have better overall careers. More influential analysts have longer

average tenures with employing brokers, longer careers on average, lower turnover, and a

higher chance of becoming Institutional Investor’sAll-America analysts during their

careers at least once.

The sample period includes two important regulations for the analyst industry:

the 2000 enactment by the U.S. Securities and Exchange Commission (SEC) of

Regulation Fair Disclosure (RegFD), and the 2002 Global Research Analyst Settlement

(GRAS). However, I show that results are not driven by any of the subperiods, either

before or after the enactment of regulation. The effect of Influential Score on analysts’

careers is positive before RegFD and after GRAS. The findings are robust to alternative

measures of career outcomes and the ability to move markets. I repeat analyses using the

second type of analyst report, forecast revisions, and find similar results. This article is

the first to link analysts’ability to move markets with their career outcomes. I conclude

that markets recognize an analyst’s ability to cause significant stock price reactions, and

the qualities associated with them. Analysts who are more likely to move markets than

their counterparts experience better career outcomes.

II. Related Literature

This article fits with the literature related to analysts’career concerns. The perceived

importance of security analysts in financial markets leads to high scrutiny of career

outcomes. Brokerage houses reward analysts for being more reputable to buy-side

clients. This reputation comes from issuing accurate forecasts and profitable stock

recommendations, and appears to be important to analysts’careers. Mikhail, Walther,

and Willis (1999) are some of the first to study whether earnings forecast accuracy

matters to security analysts. They find that relative (compared to peers) forecast accuracy

is associated with a higher probability of turnover, but the profitability of analysts’stock

recommendations is not. Hong, Kubik, and Solomon (2000) study the relation between

analysts’boldness and future career outcomes. Their results suggest that analysts who are

more likely to issue forecasts that deviate from consensus are more likely to leave the

profession.

Analyst compensation links directly to analysts’ability to generate trading

volume and investment banking business (Dorfman 1991; Eccles and Crane 1988;

Morgenson 1997; Jackson 2005). This link offers incentives for analysts to act in the

interests of the sales force and investment bankers of the brokerage house, and issue

favorable reports for initial public offerings (Dechow, Hutton, and Sloan 1997; Dugar

and Nathan 1995). Research has long suggested that optimistic analysts are preferred

over those who are not, and that they have better career outcomes (Schipper 1991; Nocera

1997; Cole 2001; Hansell 2001; Hong and Kubik 2003). Hong and Kubik (2003)

examine this aspect of analysts’forecasting behavior. Optimism occurs when analysts

issue forecasts and recommendations that are more favorable than consensus suggests.

The authors find that relative forecast optimism associates positively with better career

outcomes. They conclude that the labor market rewards optimistic analysts for their

ability to generate commissions for the employing brokerage house.

Analysts Who Move Markets 183