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Mean reverting in stock ratings distribution

Author

Listed:
  • Huai-Chun Lo

    (Yuan Ze University)

  • Chia-Ying Chan

    (National Taipei University, University Rd. Sanshia Dist)

Abstract

This study elucidates how the distribution of stock recommendations influences brokerages’ revision strategies and investors’ response to the revisions. We first observe that brokerages tend to adopt mean reverting strategies when their current recommendation distribution deviates too much from their long-term mean buy ratio. However, this process is not straightforward, because brokerages adopt all buy- and sell-type strategies simultaneously. Further, we find that a “mean reverting” strategy for recommendation revisions provokes a less significant reaction from the market. In addition, any revision that enlarges the deviation results in a lower response because of the market’s suspicions of relative optimism or pessimism on the brokerage’s part. We conclude that a steady buy ratio is the best strategy for the brokerage to obtain most effective recommendation returns.

Suggested Citation

  • Huai-Chun Lo & Chia-Ying Chan, 2023. "Mean reverting in stock ratings distribution," Review of Quantitative Finance and Accounting, Springer, vol. 60(3), pages 1065-1097, April.
    • Handle: RePEc:kap:rqfnac:v:60:y:2023:i:3:d:10.1007_s11156-022-01121-4
    DOI: 10.1007/s11156-022-01121-4
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    More about this item

    Keywords

    Recommendation distribution; Mean reverting; Recommendation revision; Market performance;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage

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