A Study On The Effectiveness Of Financial Analysts’ Earnings Forecast In China

In the modern securities market, as professionals who analyze and research all kinds of information about the listed companies using professional knowledge, financial analysts build up a bridge of information communication between listed companies and ordinary investors, creditors and other external stakeholders, which plays an important role in reducing information asymmetry and improving market efficiency unquestionably. However, it depends on financial analysts’professional competence whether they can play external positive role in corporate governance, and this is also the main question needs to be solved in this dissertation. Generally speaking, analysts’work mainly includes collecting information, interpreting and analyzing the information and forming the investment advice eventually revealed in the form of research report. Research report is the final product of analysts, of which investment advice is formed on the basis of earnings forecast. It can be said that earnings forecast is the core of the financial analysts’functions (Schipper,1991). Therefore, this dissertation mainly focuses on effectiveness of analysts’earnings forecast. The author hopes this dissertation can help us know about the fundamental analysis ability of financial analysts in current China, and find the problems and the solutions, and then make analysts play a positive role in securities market.The study on the effectiveness of analysts’earnings forecast is not only a theoretical one in academic study but a practical application. Firstly, the definition of effectiveness of analysts’earnings forecast in this dissertation involves their fundamental analysis capability, which makes the connotation of this definition more comprehensive and systematic. And the dissertation gives rise to the specific ways of affecting the effectiveness of analysts’ earnings forecast based on theoretical analysis; further studies it from the perspective of fundamental analysis. This not only enriches the research results of financial analysts’ earnings forecast in China, but also improves the research system of analysts’fundamental analysis. Secondly, financial analysts can provide pricing information that can reasonably reflect the intrinsic value of the securities to market participants by their superior information collecting way and professional analysis capabilities. This help to weaken the deviation of price from intrinsic value and promote market effectiveness. Analysts’earnings forecast is a core part of the financial analysts’functions, and this study helps to answer the question whether financial analysts in China have the ability to participate in the external corporate governance to alleviate the information asymmetry. Therefore, this dissertation has a very important practical significance.The effectiveness of analysts’earnings forecast referred in this dissertation means that financial analysts can collect useful information to make decision as much as possible, fully interpret and analyze the information, and obtain results with information content. On the basis of the above, they can form high level of pricing and valuable investment advice. In essence, this definition puts forward the request of analysts from the three aspects:source of information, process of analysis and result, which is a comprehensive consideration of their fundamental analysis ability, not just examining the accuracy of earnings forecast and whether investment advice could gain excess returns. Based on literature review and theoretical analysis, this dissertation considers that it is worth studying on the effectiveness of analyst earnings forecasts from the perspective of interpreting and analyzing information, and finds two feasible ways in empirical study to examine the effectiveness of analyst’s earnings forecasts by further analysis. At first, whether earnings forecast can correctly reflect the different persistence of earnings components, including two levels of earnings components, earnings can be divided into accruals and cash flow, and then accruals can be further divided into discretionary accruals and non-discretionary accruals. On the second, whether analysts’pricing is more reasonable. It needs to be mentioned that valuation of analysts is usually higher than the actual share price due to their optimism bias, so the level of pricing referred in this dissertation is not just a simple number about price, but a lot depends on the information reflected from the price.By theoretical analysis and empirical test, this dissertation concludes that:the effectiveness of financial analysts’earnings forecast is not only manifested that earnings forecast can correctly reflect the different persistence of earnings components to some extent on a certain conditions, but manifested that financial analysts’ level of pricing earnings components is more reasonable than that of investors. Firstly, financial analysts’ earnings forecast can correctly reflect the different persistence of accruals and cash flow, permanent earnings and temporary earnings. However, it can’t properly reflect the difference between discretionary accruals and non-discretionary accruals. Only in the sample with higher shareholding percentage of institutional investors can earnings forecast correctly reflect the different persistence between discretionary accruals and non-discretionary accruals. Secondly, both in the total sample and sample with higher or lower shareholding percentage of institutional investors, there is a larger deviation from intrinsic value in analysts’pricing than in investors’pricing. However, the deviation is mainly caused by analysts’overstatement of net assets. When pricing earnings components, analysts’ deviation is not larger than investors’.These conclusions indicate that, to a certain extent, financial analysts can recognize the different persistence between accruals and cash flow, and can reflect this in their earnings forecast. When dealing with more complex discretionary accruals, only in the sample with higher shareholding percentage of institutional investors can earnings forecast correctly reflect the different persistence of accruals components. This means that there is certain information content in financial analysts’earnings forecast, but they fall some short when dealing with complex accounting information, and there is a certain degree of "functional fixation" for analysts. At the same time, although financial analysts’level of pricing earnings components is higher than investors’, they are not reasonable than investors when pricing net assets, this is why deviation of analysts’pricing from intrinsic value is larger than investors’. Although this dissertation focuses on the effectiveness of the financial analysts’forecast earning, it does not affect the study conclusions to price net assets inaccurately, this reveals there are still some questions existed in the ability of financial analysts. In addition, in the sample with higher shareholding percentage of institutional investors, many domestic studies have shown that the environment of information generation and disclosure in these companies is more perfect due to more reasonable corporate governance structure. All of these could help financial analysts interpret and analyze information better, and then draw appropriate conclusions. Based on above analysis, some policy suggestions are put forward at last.This study reveals that financial analysts’earnings forecast in China are relatively effective to some extent although they still have their own deficiencies. The effectiveness is reflected that earnings forecast has some information content and can reflect he different persistence of earnings components to some extent. At the same time, the efficiency is also reflected in analysts’higher level of pricing earnings components. This has a positive significance especially when it is difficult for investors to distinguish different persistence of earnings components. And this just lays a solid foundation for analysts to participate in corporate governance.This dissertation may make some innovation and contribution in the following aspects:(1) studying on the effectiveness of financial analysts’earnings forecast from the perspective of their interpretation and analysis capabilities. At present, relevant studies focus on the earnings forecast number, valuation and investment recommendation based on earnings forecasts. And analysts’process of interoperating and analyzing information is not taken into account, which is just the perspective of this dissertation.(2) coming up with two feasible ways in empirical study to investigate the effectiveness of analyst earnings forecasts, namely, whether analyst can distinguish persistence difference of earnings components and reasonably price earnings components. This provide a new perspective for studying analysts’earnings forecasts based on fundamental analysis.(3)providing empirical evidence for whether our country’s financial analysts could participate in external corporate governance to reduce information asymmetry and improve the efficiency of market. This study shows that there is some information content in financial analysts’earnings forecast, and they price earnings components more reasonably than investors, this means that financial analyst in China has a certain degree of professional competence, they can participate in the External Corporate Governance to some extent.(4) conductive to testing effective market hypothesis and functional fixation hypothesis, providing evidence for whether the latter is suitable for financial analysts, and explaining "accrual anomaly" existed on securities market from the view of the financial analysts.