Prior research has established that stocks with high dispersion of earnings
forecasts or short interest are associated with low subsequent returns. Assuming
dispersion of forecasts is a proxy for divergence of opinions and short interest is a proxy
for short selling constraints, these results have been traditionally attributed to correction
for overpricing created by binding short selling constraints. This argument is provided by
Miller (1977), and states that prices reflect an optimistic view when investors with
pessimistic views can not trade due to short selling constraints, and that the more
opinions diverge, the more stocks become overpriced. I test whether dispersion of
forecasts exacerbates overpricing, but find evidence contrary to Miller’s theory. When
dispersion of forecasts increases, prices decrease. I offer an explanation based on
analysts’ reluctance to quickly revise their forecasts downward. I show that some
analysts’ sluggish response to bad news results in dispersion of forecasts. The inertia in
downward forecast revisions also leads to market underreaction to bad news. Therefore,
the negative relationship between dispersion and subsequent returns may be attributable
to analysts’ sluggish response to bad news. I also examine the return predictability of
firms with high short interest and low institutional ownership. Short interest seems to
predict not only future stock returns but also future earnings news, especially for firms
with lower institutional ownership. Therefore, the return predictability of short interest
seems to be associated with value relevant information short sellers seem to have
gathered.
| Identifer | oai:union.ndltd.org:tamu.edu/oai:repository.tamu.edu:1969.1/ETD-TAMU-1790 |
| Date | 02 June 2009 |
| Creators | Erturk, Bilal |
| Contributors | Boehmer, Ekkehart, Sorescu, Sorin |
| Source Sets | Texas A and M University |
| Language | en_US |
| Detected Language | English |
| Type | Book, Thesis, Electronic Dissertation, text |
| Format | electronic, application/pdf, born digital |
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