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Analyst Recommendations, Mutual Fund Herding, and Overreaction in Stock Prices

Author

Listed:
  • Nerissa C. Brown

    (School of Accountancy, J. Mack Robinson College of Business, Georgia State University, Atlanta, Georgia 30303)

  • Kelsey D. Wei

    (Jindal School of Management, University of Texas at Dallas, Richardson, Texas 75080)

  • Russ Wermers

    (Department of Finance, Smith School of Business, University of Maryland, College Park, Maryland 20742)

Abstract

This paper documents that mutual funds “herd” (trade together) into stocks with consensus sell-side analyst upgrades, and herd out of stocks with consensus downgrades. This influence of analyst recommendation changes on fund herding is stronger for downgrades, and among managers with greater career concerns. These findings indicate that career-concerned managers are incentivized to follow analyst information, and that managers have a greater tendency to herd on negative stock information, given the greater reputational and litigation risk of holding losing stocks. Furthermore, starting in the mid-1990s (when aggregate mutual fund equity ownership is significantly higher), stocks traded by career-concerned herds of fund managers in response to analyst recommendation changes experience a significant same-quarter price impact, followed by a sharp subsequent price reversal. Our evidence suggests that analyst recommendation revisions induce herding by career-concerned fund managers, and that this type of trading has become price destabilizing with the increasing level of mutual fund ownership of stocks. This paper was accepted by Wei Jiang, finance.

Suggested Citation

  • Nerissa C. Brown & Kelsey D. Wei & Russ Wermers, 2014. "Analyst Recommendations, Mutual Fund Herding, and Overreaction in Stock Prices," Management Science, INFORMS, vol. 60(1), pages 1-20, January.
    • Handle: RePEc:inm:ormnsc:v:60:y:2014:i:1:p:1-20
    DOI: 10.1287/mnsc.2013.1751
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