We investigate the determinants of analysts' target price implied returns and the implication of our findings for investment decision-making. We identify four broad sets of factors that help explain the cross-sectional variation in target price implied returns: future realized stock returns, errors in forecasting fundamentals, errors in forecasting the expected return to risk, and biases relating to analysts' incentives. Our results suggest that all four sets help explain target price implied returns, with errors in forecasting the expected return to empirical risk proxies having the greatest impact. Collectively, these variables explain nearly a quarter of the cross-sectional variation in target price implied returns. We use our model to predict the optimistic bias in target price implied returns and evaluate whether investors correctly ignore the predictable bias. The results suggest that investors make similar valuation errors to analysts and/or do not perfectly back out the predicted bias in target prices.
Research Article| June 30 2020
Understanding the Determinants of Analyst Target Price Implied Returns
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Patricia M. Dechow, Haifeng You; Understanding the Determinants of Analyst Target Price Implied Returns. The Accounting Review doi: https://doi.org/10.2308/TAR-2015-0265
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