Analyst Forecast Dispersion and Market Return Predictability: Does Conditional Equity Premium Play a Role?

Shuang Liu, Juan Yao and Stephen Satchell
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Shuang Liu: The Discipline of Finance, The University of Sydney Business School, The University of Sydney, Sydney, NSW 2006, Australia
Juan Yao: The Discipline of Finance, The University of Sydney Business School, The University of Sydney, Sydney, NSW 2006, Australia
Stephen Satchell: Trinity College, University of Cambridge, Cambridge CB2 1TQ, UK

JRFM, 2020, vol. 13, issue 5, 1-21

Abstract: Prior studies found that analyst forecast dispersion predicts future market returns. Some prior studies attribute this predictability to the short-sale constraints in the market according to the overpricing theory. Using the U.S. data from 1981 to 2014, we find that the return predictive power of aggregate dispersion only exists prior to 2005. The investor sentiment index, as a proxy of short-sale constraints used by many studies, can only explain the dispersion effect prior to 2005. The investor sentiment index and other proxies such as institutional ownership and put options cannot explain the significant weakening of the dispersion effect after the global financial crisis. We argue that the dispersion-return relation is partly driven by the correlation between dispersion and conditional equity premium. Our evidence suggests that the short-sale constrained stocks do not experience a higher dispersion effect, which is contrary to what the overpricing theory predicts.

Keywords: analyst forecast dispersion; conditional equity premium; market variance; average idiosyncratic variance; investor sentiment (search for similar items in EconPapers)
JEL-codes: C E F2 F3 G (search for similar items in EconPapers)
Date: 2020
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