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Analyst recommendations and the implied cost of equity

Author

Listed:
  • Raj Aggarwal

    (Ancora Securities)

  • Dev Mishra

    (University of Saskatchewan)

  • Craig Wilson

    (University of Saskatchewan)

Abstract

We investigate the relation between analyst recommendations and the cost of equity implied by current stock price and earnings forecasts. Contrary to expectations, previous-year recommendation upgrades are associated with increases in the current cost of equity; and past increases in the cost of equity are associated with current recommendation downgrades. Furthermore, changes in the implied cost of equity and changes in analyst recommendations jointly explain as much as 31% of the variation in 1-year holding period returns, where most of the variation (28%) is explained by the implied cost of equity alone. We document that when forming recommendations, analysts underestimate the role of the cost of equity.

Suggested Citation

  • Raj Aggarwal & Dev Mishra & Craig Wilson, 2018. "Analyst recommendations and the implied cost of equity," Review of Quantitative Finance and Accounting, Springer, vol. 50(3), pages 717-743, April.
    • Handle: RePEc:kap:rqfnac:v:50:y:2018:i:3:d:10.1007_s11156-017-0644-y
    DOI: 10.1007/s11156-017-0644-y
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    References listed on IDEAS

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    More about this item

    Keywords

    Implied cost of equity; Cost of capital; Discount rate; Analyst recommendations; Analyst forecasts;
    All these keywords.

    JEL classification:

    • G3 - Financial Economics - - Corporate Finance and Governance
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design

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