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THE JOURNAL OF FINANCE  VOL. LVIII, NO. 5  OCTOBER 2003




An Empirical Analysis of Analysts™ Target Prices:
Short-term Informativeness and Long-term
Dynamics

ALON BRAVand REUVEN LEHAVY n


ABSTRACT
Using a large database of analysts™ target prices issued over the period 1997^
1999, we examine short-term market reactions to target price revisions and
long-term comovement of target and stock prices.We ¢nd a signi¢cant market
reaction to the information contained in analysts™ target prices, both uncondi-
tionally and conditional on contemporaneously issued stock recommendation
and earnings forecast revisions. Using a cointegration approach, we analyze
the long-term behavior of market and target prices. We ¢nd that, on average,
the one-year-ahead target price is 28 percent higher than the current market
price.



ACADEMICS, PRACTITIONERS, AND INDIVIDUAL INVESTORS have long been interested in un-
derstanding the value and usefulness of sell-side analysts™ equity reports. In re-
cent years, security analysts have been increasingly disclosing target prices in
these reports, along with their stock recommendations and earnings forecasts.
These target prices provide market participants with analysts™ most concise and
explicit statement on the magnitude of the ¢rm™s expected value. Despite the in-
creasing prominence of target prices, their role in conveying information to mar-
ket participants and their contribution to the formation of equity prices have
remained largely unexplored.1 This paper provides new evidence on these issues.

Brav is at Duke University and Lehavy is at University of Michigan. We thank Je¡ Abar-
n

banell, Ravi Bansal, Tim Bollerslev, Jennifer Francis, Joel Hasbrouck, David Hsieh, Jack
Hughes, S. P. Kothari, Charles Lee, Roni Michaely, Michael Roberts, seminar participants at
University of California^Irvine, University of Illinois^Champaign, University of North Caro-
lina at Chapel Hill, University of Minnesota, Tel-Aviv University, The Interdisciplinary Center
Herzlyia, Israel, University of Toronto, and Purdue University for their comments, and we
thank Mark Carhart and Ken French for providing the factor time series. We also thank the
following individuals for their insights: Stan Levine from First Call, Jennifer Lyons from
Lend Lease Rosen Real Estate Securities, LLC, Jim Wicklund from Dain Rauscher, Inc.,
Ralph Goldsticker from Mellon Capital Management, Len Ya¡e from Bank of America Secu-
rities, and Peter Algert from Barclays Global Investors. We owe special thanks to John Gra-
ham, Campbell Harvey, Brett Trueman, and Richard Willis for many invaluable insights and
comments. All remaining errors are ours.
1
Bradshaw (2002) studies a sample of 103 analysts™ reports and documents the frequency
with which analysts employ target prices to justify their choice of recommendations. Using
a sample of 114 Canadian ¢rms, Bandyopadhyay, Brown, and Richardson (1995) also ¢nd that
forecasted earnings explain a large proportion of the variation in price forecasts.

1933
1934 The Journal of Finance

Understanding the role of target prices in capital markets is important for sev-
eral reasons. First, because target prices are often computed as the product of
forecasted earnings and a ¢nancial ratio such as an earnings yield (Fernandez
(2001) and Asquith, Mikhail, and Au (2002)), evidence that target prices are infor-
mative in the presence of earnings forecasts supports the argument that market
participants consider price formation via multiples to be useful. Second, evi-
dence that market participants react to the information conveyed in analyst tar-
get prices is relevant for the recent controversy regarding the value of analyst
research reports (see U.S. House of Representatives (2001)). Such evidence should
therefore be considered when assessing the implications of potential biases in
analysts™opinions on the informativeness of their reports. Third, if target prices
are incrementally informative, that would suggest that results in prior research
on analysts™ stock recommendations and earnings forecasts might be partially
attributed to the value that investors assign to price targets. Finally, an investi-
gation into the role of target prices enables us to evaluate the view that target
prices provide little or no value to market participants.2 Speci¢cally, it may be
argued that recommendations and earnings forecasts may completely subsume
the information in target prices, since the latter are determined after the stock
recommendation and earnings forecast have been set. It may also be argued that
target prices are uninformative and serve as a mere vehicle to enhance an indivi-
dual analyst™s stature, or that they may not be easily interpreted by investors as
they are not necessarily associated with an ˜˜end date.™™ The view that target prices
provide little or no value to market participants provides for a natural null hy-
pothesis in this paper.
We begin our analysis with an examination of stock price reactions both asso-
ciated with and subsequent to target price revisions. If capital market partici-
pants perceive analyst price targets as valuable, we should observe signi¢cant
price reactions around their announcements. If larger upward (downward) revi-
sions in target prices represent more (less) favorable news, we expect market re-
actions around target price revisions to increase in the favorableness of the
revision. Since target prices are generally issued in conjunction with stock re-
commendations and earnings forecasts, we also ask whether target prices are
incrementally informative. Given the discreteness of stock recommendations,
we expect target prices to be informative in the presence of stock recommenda-
tions.
Using a large database of analyst target prices, we document signi¢cant abnor-
mal returns around target price revisions and show that the abnormal returns
are increasing in the favorableness of the target price revision.We also show that



2
O™Brien (2001) re£ects on the controversy regarding the value of price targets: ˜˜Price tar-
gets, at their worst, can be used to exploit unsophisticated investorsy. Now that some of the
dust has settled, market professionals are seeing some marginal value in price targets, if only
in interpreting the vernacular of Wall Street.™™ Vickers and Weiss (2000) assert that ˜˜yanalysts
are increasingly lobbing ˜absurdly extreme™ calls that attract big-media attention and encou-
rage momentum investing.™™
An Empirical Analysis of Analysts™ Target Prices 1935

target prices are incrementally informative, conditional on contemporaneously
issued stock recommendations and earnings forecast revisions. Motivated by evi-
dence in prior research of a price˜˜drift™™subsequent to recommendation and earn-
ings forecast revisions (e.g., Stickel (1995),Womack (1996)), we examine postevent
abnormal returns.We ¢nd that target price revisions contain information regard-
ing future abnormal returns above and beyond that which is conveyed in stock
recommendations. This ¢nding reinforces the view that target prices do contain
valuable information.
Further evidence on the properties of analyst price targets is provided by an
analysis of the long-term comovement of both stock and target prices. Because
target prices are forward looking, we argue that, much like stock prices, they
ought to be linked to the underlying fundamental value of the ¢rm. Therefore,
using a cointegration framework, we examine the long-term dynamics that link
target and market prices. The ratio of target price to the underlying stock price
provides a measure of analysts™ beliefs regarding the ¢rm™s expected return. The
cointegration analysis allows us to estimate the mean of this ratio, which we in-
terpret as the long-term relation of the two price series.
The long-term analysis also enables us both to provide evidence on how the
system of target and stock prices reacts to deviations from this long-term relation
and to quantify the speed and magnitude of adjustment of each price series back
toward this long-term relation.We ask whether analysts react to deviations from
the long-term relation by adjusting their target prices, or whether stock prices
contribute towards most of the long-term adjustments. Given our ¢nding of
postevent excess returns, the long-term analysis is of particular interest because
it provides evidence as to the relative magnitude by which analysts (investors)
adjust target (stock) prices toward the long-run target-to-stock price ratio. The
long-term analysis, conducted on a subset of 900 ¢rms with a continuous target
price record, reveals that, on average, target prices are 28 percent higher than
concurrent market prices and, moreover, this ratio is inversely related to ¢rm
size. We also ¢nd that once the ratio of target-to-market price is higher (lower)
than the estimated long-run ratio, it is primarily analysts who revise their tar-
gets down (up) such that the ratio reverts back to its long-run value. Market
prices, in contrast, barely contribute to this correction phase.
In our ¢nal analysis we combine the short- and long-term analyses by examin-
ing whether investors understand the properties of the long-term dynamics that
we document. Speci¢cally, for each target price revision, we construct an esti-
mate of the expected and unexpected component of the revision, and examine
investors™ reactions to each component. We ¢nd that average abnormal returns
are signi¢cantly associated with the proxy for the unexpected revision in the tar-
get price but not for the expected component.This ¢nding supports the view that
investors understand the long-term dynamics that we document.
Our examination of the informativeness of analysts™ target prices contributes
to extant research on the information content of analysts™ two other signals:
stock recommendations and earnings forecasts.This research generally ¢nds sig-
ni¢cant positive (negative) price reaction to recommendation upgrades (down-
grades; e.g., Elton, Gruber, and Grossman (1986), Stickel (1995), Womack (1996)).
1936 The Journal of Finance

Recommendations have also been shown to contain information that is generally
orthogonal to the information in other variables known to have predictive power
for stock returns (Jegadeesh et al. (2001)). Francis and So¡er (1997) focus on the
relative informativeness of analyst earnings forecast revisions and stock recom-
mendations and ¢nd that each signal is informative in the presence of the other,
while Stickel (1999) and Bradshaw (2000) examine the consistency between con-
sensus recommendations and consensus earnings forecast revisions. We add to
this research by examining the value and properties of analysts™ target prices.
Our combined evidence indicates that target price revisions are informative
and provide signi¢cant incremental information over and above that contained
in stock recommendations and earnings forecasts.
The paper proceeds as follows. Section I describes the data. We examine the
information content of target prices in Section II. Section III describes our coin-
tegration approach to modeling the long-term comovement of target and stock
prices.We combine the insights from the short- and long-term analyses in Section
IV. Conclusions are o¡ered in Section V.


I. Data and Variable Descriptions
A. Data Description
The target price, stock recommendation, and earnings forecast databases are
provided by First Call.3 We report descriptive statistics in Table I for ¢rms with
available data on the Center for Research in Security Prices (CRSP) database.
Panel A of that table provides information on the target price database. The year
1997 is the ¢rst year with complete target price data (coverage begins in Novem-
ber 1996, with 3,862 target price reports for that year). Coverage increases sub-
stantially over time, from 49,134 target price reports in 1997 to 93,946 reports in
1999. The average number of price targets per covered ¢rm (column 3) also in-
creases from 10 in 1997 to 18 in 1999. The target price database is quite compre-
hensive and includes reports for 6,544 distinct ¢rms.The number of participating
brokerage houses remains fairly constant over the years, with an increase from
123 in 1997 to 149 in 1999 (column 5), with 190 distinct brokerage houses issuing
target price reports across all years. Each ¢rm in the sample is covered, on aver-
age, by six brokerage houses. Finally, we ¢nd that these ¢rms account for approxi-
mately 93 percent of the total market value of all securities on CRSP.
3
First Call has been a major supplier of analyst data to both practitioners and academics.
First Call maintains that its data collection procedures place great importance on ensuring
accuracy, especially with respect to the timing of the reports. Consequently, a distinguishing
feature of the First Call database is that it codes the source of each analyst™s report as either
˜˜real-time™™ or ˜˜batch.™™ Real-time refers to reports that are received from live feeds such as the
broker notes and that are dated as the date that the report was published. Batch reports are
generated from a weekly batch ¢le from the brokerage house, and, hence, their precise pub-
lication dates are unknown. With technological improvements in First Call™s data collection
procedures, by 1999 the overwhelming majority of reports were being coded as real-time. To
ensure accurate dating of analysts™ reports, our empirical analyses include only observations
coded as real-time.
An Empirical Analysis of Analysts™ Target Prices 1937

Panel B of Table I provides a description of the recommendation database. In
1997, the database includes 32,295 recommendations for 5,572 distinct ¢rms. By
1999, the number of recommendations reaches 42,014 for 5,929 distinct ¢rms. The

Table I
Descriptive Statistics on Analysts™ Target Prices, Stock Recommenda-
tions, and Earnings Forecast Revisions, 1997^1999
This table reports statistics on the First Call target price (Panel A), stock recommendations
(Panel B), and earnings forecasts (Panel C) databases, as well as a transition matrix of analyst
stock recommendations and target prices (Panel D) for ¢rms with available data on CRSP. To
ensure accurate dating of analysts™ reports, we include only observations coded as ˜˜real-time™™
(i.e., reports received from live feeds such as the broker note and that are dated as the date that
the report was published). Panels A through C present, by year, the number of observations, the
average number of reports per ¢rm, the number of ¢rms, the number of brokerage houses issuing
reports, and the average number of brokerage houses per ¢rm. The last row in each panel A^C
presents statistics for the three-year sample period. Panel D presents the number of analyst
stock recommendations (top number) and the percentage of those recommendations issued
with a target price (bottom number), by changes in or reiterations of stock recommendations.

Panel A: Target Prices

Price Targets Brokers

Year N Avg. No. Per Firm Number of Firms N Avg. No. Per Firm
(1) (2) (3) (4) (5) (6)

1997 49,134 10 4,694 123 4
1998 79,936 16 4,997 136 5
1999 93,946 18 5,165 149 5

Overall 223,016 14 6,544 190 6

Panel B: Stock Recommendations

Recommendations Brokers

Year N Avg. No. Per Firm Number of Firms N Avg. No. Per Firm

1997 32,295 6 5,572 211 4
1998 42,805 7 5,871 222 5
1999 42,014 7 5,929 210 5

Overall 117,114 6 8,673 325 7

Panel C: Earnings Forecasts

Earnings Forecasts Brokers

Year N Avg. No. Per Firm Number of Firms N Avg. No. Per Firm

1997 39,736 6 6,474 204 5
1998 42,228 7 6,203 233 5
1999 42,322 7 6,106 246 5

Overall 124,286 7 9,167 282 7
1938 The Journal of Finance

Table I (continued )

Panel D: Number of Stock Recommendations and Percentage Issued with Target Price

To Recommendation

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