An Empirical Analysis of Analysts’ Target Prices: Short-term Informativeness and Long-term Dynamics

36 Pages·2003·0.288 MB·English

by  Brav A., Lehavy R.

THEJOURNALOFFINANCE(cid:1)VOL.LVIII,NO.5(cid:1)OCTOBER2003
An Empirical Analysis of Analysts’Target Prices:
Short-term Informativeness and Long-term
Dynamics
ALONBRAVandREUVENLEHAVYn
ABSTRACT
Usingalargedatabaseofanalysts’targetpricesissuedovertheperiod1997^
1999, we examine short-term market reactions totargetpricerevisions and
long-termcomovementoftargetandstockprices.We¢ndasigni¢cantmarket
reactiontotheinformationcontainedinanalysts’targetprices,bothuncondi-
tionallyandconditionaloncontemporaneouslyissuedstockrecommendation
andearningsforecastrevisions.Usingacointegrationapproach,weanalyze
thelong-termbehaviorofmarketandtargetprices.We¢ndthat,onaverage,
theone-year-aheadtargetpriceis28percenthigherthanthecurrentmarket
price.
ACADEMICS,PRACTITIONERS,ANDINDIVIDUALINVESTORShavelongbeeninterestedinun-
derstanding thevalueandusefulnessofsell-sideanalysts’equity reports.In re-
cent years, securityanalysts have been increasinglydisclosing target prices in
thesereports, along withtheirstock recommendations andearnings forecasts.
Thesetargetpricesprovidemarketparticipantswithanalysts’mostconciseand
explicitstatementonthemagnitudeofthe¢rm’sexpectedvalue.Despitethein-
creasingprominenceoftargetprices,theirroleinconveyinginformationtomar-
ket participants and their contribution to the formation of equity prices have
remainedlargelyunexplored.1Thispaperprovidesnewevidenceontheseissues.
nBravisatDukeUniversityandLehavyisatUniversityofMichigan.WethankJe¡Abar-
banell, Ravi Bansal, Tim Bollerslev, Jennifer Francis, Joel Hasbrouck, David Hsieh, Jack
Hughes,S.P.Kothari,CharlesLee,RoniMichaely,MichaelRoberts,seminarparticipantsat
UniversityofCalifornia^Irvine,UniversityofIllinois^Champaign,UniversityofNorthCaro-
linaatChapelHill,UniversityofMinnesota,Tel-AvivUniversity,TheInterdisciplinaryCenter
Herzlyia, Israel, University of Toronto, and Purdue University for their comments, and we
thankMarkCarhartandKenFrenchforprovidingthefactortimeseries.Wealsothankthe
following individuals for their insights: Stan Levine from First Call, Jennifer Lyons from
Lend Lease Rosen Real Estate Securities, LLC, Jim Wicklund from Dain Rauscher, Inc.,
RalphGoldstickerfromMellonCapitalManagement,LenYa¡efromBankofAmericaSecu-
rities,andPeterAlgertfromBarclaysGlobalInvestors.We owespecialthankstoJohnGra-
ham,CampbellHarvey,BrettTrueman,andRichardWillisformanyinvaluableinsightsand
comments.Allremainingerrorsareours.
1Bradshaw (2002) studies a sample of 103 analysts’reports and documents the frequency
withwhich analysts employ targetprices tojustify theirchoice of recommendations. Using
asampleof114Canadian¢rms,Bandyopadhyay,Brown,andRichardson(1995)also¢ndthat
forecastedearningsexplainalargeproportionofthevariationinpriceforecasts.
1933
1934 TheJournalofFinance
Understandingtheroleoftargetpricesincapitalmarketsisimportantforsev-
eral reasons. First, because targetprices are oftencomputed as the product of
forecastedearnings and a ¢nancial ratio such as anearningsyield (Fernandez
(2001)andAsquith,Mikhail,andAu(2002)),evidencethattargetpricesareinfor-
mativeinthepresenceofearningsforecastssupportstheargumentthatmarket
participants consider price formation via multiples to be useful. Second, evi-
dencethatmarketparticipantsreacttotheinformationconveyedinanalysttar-
get prices is relevant for the recent controversy regarding the value of analyst
researchreports(seeU.S.HouseofRepresentatives(2001)).Suchevidenceshould
therefore be considered when assessing the implications of potential biases in
analysts’opinionsontheinformativenessoftheirreports.Third,iftargetprices
areincrementallyinformative,thatwouldsuggestthatresultsinpriorresearch
on analysts’stock recommendations and earnings forecasts might be partially
attributedtothevaluethatinvestorsassigntopricetargets.Finally,aninvesti-
gation into the role of target prices enablesus to evaluate theview that target
prices providelittle or novalue to market participants.2 Speci¢cally, it maybe
argued that recommendations andearnings forecasts maycompletelysubsume
theinformationintargetprices,sincethelatteraredeterminedafterthestock
recommendationandearningsforecasthavebeenset.Itmayalsobearguedthat
targetpricesareuninformativeandserveasamerevehicletoenhanceanindivi-
dualanalyst’sstature,orthattheymaynotbeeasilyinterpretedbyinvestorsas
theyarenotnecessarilyassociatedwithan‘‘enddate.’’Theviewthattargetprices
providelittle or novalueto marketparticipantsprovides fora natural null hy-
pothesisinthispaper.
Webeginouranalysiswithanexaminationofstockpricereactionsbothasso-
ciatedwith and subsequent to target price revisions. If capital market partici-
pants perceive analyst price targets as valuable, we should observe signi¢cant
pricereactionsaroundtheirannouncements.Iflargerupward(downward)revi-
sionsintargetpricesrepresentmore(less)favorablenews,weexpectmarketre-
actions around target price revisions to increase in the favorableness of the
revision. Since target prices are generally issued in conjunctionwith stock re-
commendations and earnings forecasts, we also ask whether target prices are
incrementally informative. Given the discreteness of stock recommendations,
weexpecttargetpricestobeinformativeinthepresenceofstockrecommenda-
tions.
Usingalargedatabaseofanalysttargetprices,wedocumentsigni¢cantabnor-
mal returns aroundtargetpricerevisions and show that the abnormal returns
areincreasinginthefavorablenessofthetargetpricerevision.Wealsoshowthat
2O’Brien(2001)re£ectsonthecontroversyregardingthevalueofpricetargets:‘‘Pricetar-
gets,attheirworst,canbeusedtoexploitunsophisticatedinvestorsy.Nowthatsomeofthe
dusthassettled,marketprofessionalsareseeingsomemarginalvalueinpricetargets,ifonly
ininterpretingthevernacularofWallStreet.’’VickersandWeiss(2000)assertthat‘‘yanalysts
are increasinglylobbing‘absurdlyextreme’calls that attractbig-media attention and encou-
ragemomentuminvesting.’’
AnEmpiricalAnalysisofAnalysts’TargetPrices 1935
targetpricesareincrementallyinformative,conditionaloncontemporaneously
issuedstockrecommendationsandearningsforecastrevisions.Motivatedbyevi-
denceinpriorresearchofaprice‘‘drift’’subsequenttorecommendationandearn-
ingsforecastrevisions(e.g.,Stickel(1995),Womack(1996)),weexaminepostevent
abnormalreturns.We¢ndthattargetpricerevisionscontaininformationregard-
ing futureabnormal returnsabove andbeyondthatwhich isconveyed in stock
recommendations.This¢ndingreinforcestheviewthattargetpricesdocontain
valuableinformation.
Furtherevidence ontheproperties ofanalyst pricetargets isprovidedbyan
analysis of thelong-term comovement of both stock and target prices. Because
target prices are forward looking, we argue that, much like stock prices, they
ought to be linked to the underlying fundamentalvalue of the ¢rm.Therefore,
usingacointegrationframework,weexaminethelong-termdynamicsthatlink
targetand marketprices.Theratiooftargetpricetotheunderlyingstockprice
providesameasureofanalysts’beliefsregardingthe¢rm’sexpectedreturn.The
cointegrationanalysisallowsustoestimatethemeanofthisratio,whichwein-
terpretasthelong-termrelationofthetwopriceseries.
The long-term analysis also enables us both to provide evidence on how the
systemoftargetandstockpricesreactstodeviationsfromthislong-termrelation
andtoquantifythespeedandmagnitudeofadjustmentofeachpriceseriesback
towardthislong-termrelation.Weaskwhetheranalystsreacttodeviationsfrom
thelong-term relationbyadjusting their target prices, or whether stock prices
contribute towards most of the long-term adjustments. Given our ¢nding of
posteventexcessreturns,thelong-termanalysisisofparticularinterestbecause
it provides evidence as to the relative magnitudeby which analysts (investors)
adjust target (stock) prices toward thelong-runtarget-to-stock price ratio.The
long-termanalysis,conductedonasubsetof900¢rmswithacontinuoustarget
price record, reveals that, on average, target prices are 28 percent higher than
concurrent market prices and, moreover, this ratio is inversely related to ¢rm
size.We also ¢nd that once the ratio of target-to-market price is higher (lower)
thanthe estimated long-run ratio, itisprimarilyanalysts who revisetheirtar-
gets down (up) such that the ratio reverts back to its long-run value. Market
prices,incontrast,barelycontributetothiscorrectionphase.
Inour¢nalanalysiswecombinetheshort-andlong-termanalysesbyexamin-
ingwhetherinvestorsunderstandthepropertiesofthelong-termdynamicsthat
we document. Speci¢cally, for each target price revision, we construct an esti-
mate of the expected and unexpected component of the revision, and examine
investors’reactions to each component.We ¢nd that average abnormal returns
aresigni¢cantlyassociatedwiththeproxyfortheunexpectedrevisioninthetar-
getpricebutnotfortheexpectedcomponent.This¢ndingsupportstheviewthat
investorsunderstandthelong-termdynamicsthatwedocument.
Ourexaminationoftheinformativenessofanalysts’targetpricescontributes
to extant research on the information content of analysts’ two other signals:
stockrecommendationsandearningsforecasts.Thisresearchgenerally¢ndssig-
ni¢cant positive (negative) price reaction to recommendationupgrades (down-
grades;e.g.,Elton,Gruber,andGrossman(1986),Stickel(1995),Womack(1996)).
1936 TheJournalofFinance
Recommendationshavealsobeenshowntocontaininformationthatisgenerally
orthogonaltotheinformationinothervariablesknowntohavepredictivepower
forstockreturns(Jegadeeshetal.(2001)).FrancisandSo¡er(1997)focusonthe
relativeinformativenessofanalystearningsforecastrevisionsandstockrecom-
mendationsand¢ndthateachsignalisinformativeinthepresenceoftheother,
whileStickel(1999)andBradshaw(2000)examinetheconsistencybetweencon-
sensus recommendations and consensus earnings forecast revisions.We add to
this research by examining the value and properties of analysts’target prices.
Our combined evidence indicates that target price revisions are informative
andprovidesigni¢cantincrementalinformationoverandabovethatcontained
instockrecommendationsandearningsforecasts.
The paper proceeds as follows. Section I describes the data.We examine the
informationcontentoftargetpricesinSectionII.SectionIIIdescribesourcoin-
tegration approach to modeling thelong-term comovement of target and stock
prices.Wecombinetheinsightsfromtheshort-andlong-termanalysesinSection
IV.Conclusionsareo¡eredinSectionV.
I.DataandVariableDescriptions
A.DataDescription
Thetargetprice,stockrecommendation,andearningsforecastdatabasesare
providedbyFirstCall.3WereportdescriptivestatisticsinTableIfor¢rmswith
available data on the Center for Research in Security Prices (CRSP) database.
PanelAofthattableprovidesinformationonthetargetpricedatabase.Theyear
1997isthe¢rstyearwithcompletetargetpricedata(coveragebeginsinNovem-
ber1996,with 3,862 targetpricereports for that year). Coverageincreases sub-
stantiallyovertime,from49,134targetpricereportsin1997to93,946reportsin
1999.The average number of price targets per covered ¢rm (column 3) also in-
creasesfrom10in1997to18in1999.Thetargetprice databaseisquitecompre-
hensiveandincludesreportsfor6,544distinct¢rms.Thenumberofparticipating
brokeragehousesremainsfairlyconstantovertheyears,withanincreasefrom
123in1997to149in1999(column5),with190distinctbrokeragehousesissuing
targetpricereportsacrossallyears.Each¢rminthesampleiscovered,onaver-
age,bysixbrokeragehouses.Finally,we¢ndthatthese¢rmsaccountforapproxi-
mately93percentofthetotalmarketvalueofallsecuritiesonCRSP.
3FirstCallhasbeenamajorsupplierofanalystdatatobothpractitionersandacademics.
FirstCallmaintainsthatitsdatacollectionproceduresplacegreatimportanceonensuring
accuracy,especiallywithrespecttothetimingofthereports.Consequently,adistinguishing
featureoftheFirstCalldatabaseisthatitcodesthesourceofeachanalyst’sreportaseither
‘‘real-time’’or‘‘batch.’’Real-timereferstoreportsthatarereceivedfromlivefeedssuchasthe
brokernotesandthataredatedasthedatethatthereportwaspublished.Batchreportsare
generated fromaweeklybatch ¢lefromthebrokeragehouse, and,hence,their precisepub-
licationdates areunknown.Withtechnological improvements in First Call’s datacollection
procedures,by1999the overwhelming majorityofreportswerebeingcoded asreal-time.To
ensureaccuratedatingofanalysts’reports,ourempiricalanalysesincludeonlyobservations
codedasreal-time.
AnEmpiricalAnalysisofAnalysts’TargetPrices 1937
PanelBofTableIprovidesadescriptionoftherecommendationdatabase.In
1997, the database includes 32,295 recommendations for 5,572 distinct ¢rms. By
1999,thenumberofrecommendationsreaches42,014for5,929distinct¢rms.The
TableI
DescriptiveStatisticsonAnalysts’TargetPrices,StockRecommenda-
tions,andEarningsForecastRevisions,1997^1999
ThistablereportsstatisticsontheFirstCalltargetprice(PanelA),stockrecommendations
(PanelB),andearningsforecasts(PanelC)databases,aswellasatransitionmatrixofanalyst
stockrecommendationsandtargetprices(PanelD)for¢rmswithavailabledataonCRSP.To
ensureaccuratedatingofanalysts’reports,weincludeonlyobservationscodedas‘‘real-time’’
(i.e.,reportsreceivedfromlivefeedssuchasthebrokernoteandthataredatedasthedatethat
thereportwaspublished).PanelsAthroughCpresent,byyear,thenumberofobservations,the
averagenumberofreportsper¢rm,thenumberof¢rms,thenumberofbrokeragehousesissuing
reports,andtheaveragenumberofbrokeragehousesper¢rm.ThelastrowineachpanelA^C
presentsstatisticsforthethree-yearsampleperiod.PanelDpresentsthenumberofanalyst
stock recommendations (top number) and the percentage of those recommendations issued
withatargetprice(bottomnumber),bychangesinorreiterationsofstockrecommendations.
PanelA:TargetPrices
PriceTargets Brokers
Year N Avg.No.PerFirm NumberofFirms N Avg.No.PerFirm
(1) (2) (3) (4) (5) (6)
1997 49,134 10 4,694 123 4
1998 79,936 16 4,997 136 5
1999 93,946 18 5,165 149 5
Overall 223,016 14 6,544 190 6
PanelB:StockRecommendations
Recommendations Brokers
Year N Avg.No.PerFirm NumberofFirms N Avg.No.PerFirm
1997 32,295 6 5,572 211 4
1998 42,805 7 5,871 222 5
1999 42,014 7 5,929 210 5
Overall 117,114 6 8,673 325 7
PanelC:EarningsForecasts
EarningsForecasts Brokers
Year N Avg.No.PerFirm NumberofFirms N Avg.No.PerFirm
1997 39,736 6 6,474 204 5
1998 42,228 7 6,203 233 5
1999 42,322 7 6,106 246 5
Overall 124,286 7 9,167 282 7
1938 TheJournalofFinance
TableI(continued)
PanelD:NumberofStockRecommendationsandPercentageIssuedwithTargetPrice
ToRecommendation
FromRecommendation StrongBuy Buy Hold Sell/StrongSell
StrongBuy 45,671 5,692 3,297 77
99% 52% 36% 39%
Buy 6,108 36,823 5,186 114
60% 99% 35% 40%
Hold 2,485 4,315 12,579 427
71% 70% 98% 42%
Sell/StrongSell 63 86 424 527
56% 60% 41% 92%
Nopriorrecommendation 16,374 15,194 8,622 510
82% 79% 49% 53%
Overall 70,701 62,110 30,108 1,655
91% 88% 66% 61%
numberofbrokeragehousesremainsfairlyconstantovertheyears,withoverall
325 distinctbrokeragehouses included inthe database. Consistent withclaims
madebyseveralanalyststhatcertainbrokeragehousesthatissuerecommenda-
tionshaveeitheraformaloraninformalpolicybarringissuanceofpricetargets,
thenumberof brokeragehouses issuing recommendations is higher thanthose
issuingpricetargets.4
PanelCofTableIprovidesadescriptionoftheearningsforecastrevisiondata-
base.Thedatabaseincludes124,286earningsforecastsfortheperiodfrom1997to
1999.Theseforecastsaredistributed,onaverage,assevenforecastsper¢rmand
pertainto9,167distinct¢rms.Theseforecastrevisionsareissuedby282distinct
brokeragehouses,withanaverageofsevenbrokerspercovered¢rm.
Finally, while analyst reports always include a recommendation, theydo not
necessarilyincludeatargetprice.Inoursample,135of325brokeragehousesdo
not issue any target price. Recommendations issued by these 135 brokerage
houses, however, account forabout¢vepercent of all recommendations.5 Panel
4Inunreported results,we¢ndthatthe majorityofstock recommendations areissued as
eitherbuyor strongbuy (68 percent), while only 29 percent are issued as a hold and three
percentasasellorstrongsell.The median numberofdaysbetween revisions is59daysfor
targetprices,141daysforstockrecommendations,and92daysforearningsforecasts.
5Whilewe donotstudytheanalyst’sdecisiontoincludeatargetprice,weconjecturesev-
eralpossiblereasons.First,accordingtoconversationswithanalysts,somebrokeragehouses
haveanexplicitpolicyprohibitingtheiranalystsfromissuingtargetprices.Second,analysts
maychoosetowithholdthetargetpriceincircumstanceswheretheircostofprovidinganex
postincorrectpricetargetexceedsthepotentialbene¢tsfromissuingit.Forexample,ifana-
lystcompensationisrelatedtothetradingcommissionsgeneratedinrecommendingsecuri-
tiesforpurchaseandifincorrecttargetpriceswereexpostcostly,thenanalystswouldtend
toissuetargetpricesmainlywithbuyratherthanwithsellrecommendations.
AnEmpiricalAnalysisofAnalysts’TargetPrices 1939
DofTableIprovidesinformationonthefrequencyofinclusionoftargetpricesin
brokerage houses’reports.The panel provides atransition matrix of brokerage
housestockrecommendations(thenumberatthetopofeachcell)andthepercen-
tageoftheserecommendationsissuedwithpricetargets(thenumberatthebot-
tom of each cell).6 Several interesting regularities are observed in this panel.
First,pricetargetsareoverallmorelikelytobeissuedalongwithstrongbuyor
buyrecommendations(91percentand88percent,respectively)thanwithhold(66
percent)orsell/strongsell(61percent)recommendations.Thisisconsistentwith
¢ndingsinBradshaw(2002).Second,withinrecommendationcategories,recom-
mendationupgrades(lower-leftcells)aremorelikelytobeaccompaniedbyatar-
getpricethanarerecommendationdowngrades(upper-rightcells).Forexample,
pricetargetsareincludedin70percentoftheupgradereportsfromholdtobuy
recommendationsbut only in 35 percent of the downgrade reports frombuy to
holdrecommendations.Thisevidenceisconsistentwiththecommonclaimthat
analystsarebiasedtowardissuingfavorablenewsandwithholding(orminimiz-
ingtheamountof)badnews.Thestatisticsonthediagonalindicatethatvirtually
allrecommendationreiterationsincludeatargetprice,suggestingthatanalysts
conveynewandperhapsmoresubtleinformationthatdoesnotnecessitateare-
commendationrevisionviatargetpricerevisions.
Finally,thestatisticsinPanelDindicatethatanalystsaremorelikelytoiniti-
ate or resumecoveragewitha strongbuyorabuy recommendation(see McNi-
cholsandO’Brien(1997),Barberetal.(2001))andarealsomorelikelytoincludea
targetpriceintheserecommendationsthanwithothercases.
B.VariableDescriptions
Weconstructtwoalternativemeasuresfortheinformationcontentofanalysts’
targetprices.The¢rst,denotedTP/P,istheratiooftheannouncedtargetpriceto
thestockprice outstandingtwo dayspriortotheannouncement(allpricesare
converted to the same split-adjusted basis). Since more than 90 percent of the
6Incomputing these statistics, we employ the following procedures: (1) All recommenda-
tionsoutstanding inthe databaseformorethanoneyearareassumedinvalid;(2)Themost
recentbrokeragehouserecommendationisassumedtohavebeenreiterated fortargetprice
reportsthatwerenotaccompaniedbyacorrespondingrecommendationobservationinFirst
Call’srecommendationdatabase.Thevalidityofthisprocedurewascon¢rmedwithano⁄cial
atFirstCallwhoindicatedthatsincetargetpricerevisionsareissuedmorefrequentlythan
recommendationrevisions,manytargetpricerevisionsarerecordedonlyinthetargetprice
databaseand,aslongasthecorresponding recommendationremainsunchanged,FirstCall
does not reiterate the existing recommendation in the recommendation database (see also
Jegadeeshetal.(2001));(3)Selland strongsell recommendationswerecombinedbecause of
their relative rarity in the data; (4) Since some brokerage houses do not issue target price
reports,weincludeonlybrokeragehouse/¢rmcombinationswithatleastonetargetpricere-
port.While results are qualitativelysimilar, removing thelatter restriction reduces the o¡-
diagonalpercentages.Notealsothatthetransitionmatrixexcludesrecommendationsmarked
by First Callas revisions fromvalidto‘‘dropped.’’This accounts forthe di¡erent numberof
observationsbetweenPanelDandPanelAinTableI.
1940 TheJournalofFinance
targetpricereportsinthedatabasearecodedasone-year-aheadprices,thisratio
maybeinterpretedastheanalysts’statedestimateofthe¢rm’sannualexpected
return.Thesecondmeasureattemptstocapturewhetherinvestorsreacttoinfor-
mationintheannouncedtargetpricerelativetothebrokeragehouse’spriortar-
getprice.Thismeasure,denotedDTP/P,isthedi¡erencebetweenthecurrentand
priortargetpriceissuedbythesamebrokeragehouse,de£atedbystockpriceout-
standingtwodayspriortotheannouncement.7
PanelAofTableIIpresentsstatisticsonthetwoinformationmeasuresaswell
as onthetargetprice andearnings forecastrevisions.Wewinsorizethese vari-
ablesatthe1stand99thpercentilestomitigatethepossiblee¡ectofextremeob-
servations.The statistics indicate that the distributions of both measures are
right skewed.The average (median) target price is higherby 32.9 (25.5) percent
relativetothepreannouncementstockprice.Asapercentageofstockprice,in-
dividualbrokeragehouses’targetpricesare0.8percenthigherthantheprevious
targetprice.8Thethirdcolumnpresentsadditionalinformationonthechangein
thebrokeragehousetargetprice,scaling itinthiscaseby thebrokeragehouse
previoustargetprice,DTP/TP .Theaverage(median)percentagechangeintar-
(cid:2)1
getpriceis5.3(0)percent.Finally,inthefourthcolumnwereportsummarysta-
tisticsfortheearningsforecastrevisionmeasuredasthechangeintheanalyst
forecastofearningsforthecurrent¢scalyearde£atedbythestockpricetwodays
priortotheannouncement.Themean(median)forecastrevisionis (cid:2)0.41((cid:2)0.03)
percent.
PanelsBandCofTableIIpresentadditionalinformationbothfortheleveland
changeintargetpricesconditionedontheassociatedrecommendationrevision.
In Panel B we report average target prices scaled by preannouncement stock
price,TP/P. In general, the magnitude of the scaled target prices is consistent
with the direction of the recommendation changes. For example, upgrades are
generallyassociatedwithhigherTP/Pratiosthandowngrades.Next,inPanelC
we report for each recommendation revision averages of DTP/TP as well as
(cid:2)1
averagepriceappreciationoverthesameperiod(sincetheissuanceofthepreced-
ingtargetprice).ItcanbeseenthattheaverageDTP/TP andthestockprice
(cid:2)1
appreciation are consistently positive for upgrades and nearlyalways negative
fordowngrades.Forexample,anupgradefromabuytoastrongbuyrecommen-
dation is associated with an average upward revision in DTP/TP of12.7 per-
(cid:2)1
cent,whereas adowngrade fromabuy toa hold recommendation is associated
7Wehavealsoconsideredadditionalmeasures.The¢rstisthedi¡erencebetweenabroker-
agehouse’stargetpriceandtheoutstandingconsensustargetpriceimmediatelypriortothe
announcement.Consensus targetpricewas calculated asthe averagetargetpriceoutstand-
ing over the previous 90 days across all brokerage houses. Other information measures are
constructedbyscalingeachoftheprevioustargetpricerevisionsbytheprior-pricestandard
deviation,measuredoverthe90daysprecedingtheevent.We¢ndqualitativelysimilarresults
inSectionIIwithalloftheseinformationmeasures.
8Inunreported results,we ¢ndthatonlyabout¢vepercentof targetpricereportsareis-
sued below the concurrent stock price, approximately 25 percent of target price reports re-
£ect a downward revision from brokerage houses’prior reports, and nearly 43 percent of
targetpricereportsre£ectadownwardrevisionfromtheoutstandingconsensustargetprice.
AnEmpiricalAnalysisofAnalysts’TargetPrices 1941
with a downward revision of (cid:2)4.5 percent on average. Similarly, the average
price appreciationover the period preceding the announcement is alsoconsis-
tent with the direction of the recommendation and target price revisions. For
the upgrade from abuy to a strong buy recommendation, the associated stock
priceappreciationis5.1percent,whereasforthedowngradefromabuytoahold
TableII
StatisticsonTargetPricesbyAnalystStockRecommendations
Thistableprovidesdescriptivestatisticsonthetargetpriceinformationmeasures.PanelApro-
videsgeneraldistributionalstatisticson(a)theratiooftargetpricetopreannouncementstock
price(stockpriceoutstandingtwodayspriortotheannouncementofthetargetprice),denoted
(TP/P),(b)thechangeintheindividualbrokeragehousetargetpricescaledbypreannounce-
ment stock price,denoted(DTP/P),(c)thepercentagechangeinthebrokeragehousetarget
price,denoted(DTP/TP ),and(d)earningsforecastrevision,computedasthedi¡erencein
(cid:2)1
thebrokeragehousecurrentandpriorannualearningsforecastscaledbypreannouncement
stockprice.PanelBprovidesinformationontheaverageTP/Pconditionalonstockrecommen-
dationrevisions.PanelCreports,foreachrecommendationrevision,averagesofDTP/TP as
(cid:2)1
wellasaveragepriceappreciationmeasuredoverthesameperiod(sincetheissuanceofthe
precedingtargetprice).Allpricesandearningsareconvertedtothesamesplit-adjustedbasis.
PanelA:DescriptiveStatisticsonMeasuresoftheInformationContentofTargetPrice
Changein Changein
Brokerage Brokerage
TargetPriceto House House
StockPrice Target Target
Ratio Price Price Forecast
(TP/P) (DTP/P) (DTP/TP ) Revision
(cid:2)1
Mean 1.329 0.8% 5.3% (cid:2)0.41%
Max 3.004 143.3% 183.3% 35.2%
75thpercentile 1.433 9.7% 8.3% 0.16%
Median 1.255 0.0% 0.0% (cid:2)0.03%
25thpercentile 1.146 0.0% (cid:2)0.8% (cid:2)0.43%
Min 0.584 (cid:2)136.0% (cid:2)89.0% (cid:2)422.5%
Std.Dev. 0.304 78.3% 95.9% 2.5%
N 204,031 115,720 115,720 82,052
PanelB:AverageTargetPricetoPriceRatio(TP/P)
ToRecommendation
From Strong Sell/Strong
Recommendation Buy Buy Hold Sell
StrongBuy 1.40 1.30 1.18 1.04
Buy 1.41 1.31 1.12 1.21
Hold 1.37 1.31 1.16 1.01
Sell/StrongSell 1.42 1.36 1.11 1.03
Initiated/Resumedas 1.43 1.31 1.15 1.07
Overall 1.41 1.31 1.16 1.04
1942 TheJournalofFinance
TableII(continued)
PanelC:AverageChangeinTargetPrice(DTP/TP )andCorrespondingPriceAppreciation
(cid:2)1
ToRecommendation
From Strong Sell/Strong
Recommendation Buy Buy Hold Sell
StrongBuy 6.0%, 5.7% 6.4%, 2.5% (cid:2)9.9%, (cid:2)0.2% (cid:2)14.5%, (cid:2)3.5%
Buy 12.7%, 5.1% 5.4%, 4.3% (cid:2)4.5%, 2.4% (cid:2)6.1%, 5.9%
Hold 22.8%, 4.6% 16.4%, 4.4% 0.6%, 0.01% (cid:2)7.2%, (cid:2)2.9%
Sell/StrongSell 20.6%, 1.6% 15.6%, 2.1% 11.0%, 0.7% 0.5%, (cid:2)3.5%
Initiated/Resumedas NA NA NA NA
Overall 6.6%, 5.6% 5.7%, 4.2% (cid:2)0.4%, 0.3% (cid:2)1.7%, (cid:2)2.9
recommendation,stockpricesappreciatedonaverageby2.4percent.9Finally,we
note that in the case of recommendation reiterations, the magnitude of target
pricerevisionsislowerthaninrecommendationupgradesordowngrades.
We have also calculated statistics, as in Panels B and C, for the variation in
earnings revisions by stock recommendation revisions (unreported). We ¢nd
that,similartotheresultsinthesepanels,earningsrevisionsaremonotonically
related to the favorableness of the recommendation change.The fact that revi-
sionsintargetprices,recommendations,andearningsforecastsoccurgenerally
inthesamedirectionsuggeststhat,tosomeextent,thesesignalssharemuchof
thesameinformationcontent.InSectionIIweexplorewhethertheinformation
ineachofthesesignalssubsumestheinformationinanyother.
II.MarketReactiontoTargetPriceAnnouncements
A.UnconditionalInformativenessofTargetPrices
In this section, we examine whether the information content of target price
announcements is associated with abnormal returns around those announce-
ments.Speci¢cally,wecomputetheabnormalreturnaroundeachannouncement
and present average abnormal returns for portfolios rankedonthebasis of the
magnitudeoftherelevantinformationcontentmeasure.Abnormalreturniscom-
putedasthedi¡erencebetweena¢rm’sbuy-and-holdreturnandthebuy-and-hold
returnontheNYSE/AMEX/Nasdaqvalue-weightedmarketindexovertheperiod
beginning two days prior and ending two days subsequent to the ¢rm’s target
priceannouncement.10TheseresultsarereportedinFigure1.
9The average contemporaneous market return for all recommendation categories is ap-
proximatelythreepercent.
10Resultsfortheperiodof (cid:2)1to þ1daysaroundtheannouncementarequalitativelysimi-
lar.Also,toavoidpossiblecross-correlationproblemscausedbyidenticalreturnobservations,
wedeleteallbutoneofidenticalreturnobservationswithineachportfolio.