Effect of investor inattention on price drifts following analyst recommendation revisions

• DOI: http://doi.org/10.1002/ijfe.1666
• Published date: 01 January 2019
• Author: Andrey Kudryavtsev
• Date: 01 January 2019

RESEARCH ARTICLE

Effect of investor inattention on price drifts following

analyst recommendation revisions

Andrey Kudryavtsev

The Max Stern Yezreel Valley Academic

College, Israel

Correspondence

Andrey Kudryavtsev, The Max Stern

Yezreel Valley Academic College, Israel.

Email: andreyk@yvc.ac.il

JEL Classification: G11; G14; G19

Abstract

The study explores stock price dynamics after analyst recommendation revi-

sions. Following the previous literature that documents significant post‐recom-

mendation stock price drifts and attributes them to investor inattention to

company‐specific events, I hypothesize that if on the day when a recommenda-

tion revision with respect to a stock was issued, the sign of the stock's abnormal

return was opposite to the direction of the revision, then it means that inves-

tors were especially inattentive to the revision and that the subsequent price

drift should be more pronounced. Analysing a large sample of analyst recom-

mendation revisions, I document that recommendation revisions accompanied

by the opposite‐sign event‐day abnormal returns are followed by significantly

greater post‐event price drifts in the direction of the revision, the magnitude

of the drifts increasing for longer post‐event periods. This effect is stronger

for small and more volatile stocks and remains robust after accounting for

additional company‐specific (size, Market Model beta, and historical volatility)

and event‐specific (number of recommendation categories changed in the revi-

sion and analyst experience) factors.

KEYWORDS

analyst recommendation revisions, behavioural finance, investor inattention, stockprice drifts

1|INTRODUCTION

One of the most striking characteristics of the modern

world refers to enormous flows of information circulating

in all the directions one can imagine. In this kind of envi-

ronment, correctly interpreting the information and dif-

ferentiating between relevant and irrelevant news and

messages become tasks of crucial importance. In financial

markets, both reacting to irrelevant information and fail-

ing to react to relevant one may lead to painful results.

Analyst recommendations serve as an important

channel of transmitting company‐specific information to

market investors. A vast body of literature comprehen-

sively analyses the effects of analyst recommendations

on stock prices and concludes that the investment

information they contain is valuable for investors (e.g.,

Green, 2006; Li, Lockwood, Lockwood, & Uddin, 2015;

Loh & Stulz, 2011; Sorescu & Subrahmanyam, 2006).

Importantly, recommendation revisions are documented

to be more informative than the recommendation levels

(e.g., Francis & Soffer, 1997; Jegadeesh & Kim, 2010;

Jegadeesh, Kim, & Krische, 2004) and to result in signifi-

cant excess stock returns in the direction of the revision.

An additional important aspect of stock price reac-

tions to analyst recommendation revisions refers to sys-

tematic price drifts following the initial revisions (e.g.,

Brav & Lehavy, 2003; Nagel, 2005; Womack, 1996). The

drifts are documented to last up to 1 month following rec-

ommendation upgrades and up to 6 months following

recommendation downgrades. The magnitude of both

Received: 28 March 2018 Revised: 2 July 2018 Accepted: 9 September 2018

DOI: 10.1002/ijfe.1666

348 © 2018 John Wiley & Sons, Ltd. Int J Fin Econ. 2019;24:348–360.wileyonlinelibrary.com/journal/ijfe