Analysts' Interim Earnings Forecasts: Evidence on the Forecasting Process

Abstract

Existing empirical evidence indicates that analyst forecasts of corporate earnings do not meet the strict rationality standards prescribed by econometric tests of the rational expectations hypothesis.1 In this paper, we address the question of whether the expectation formation process underlying analyst forecasts is adaptive, or whether these forecasts are influenced by noninformational factors, such as incentives arising from the market for their forecasts (O'Brien [1988], Lin and McNichols [1993], Francis and Philbrick [1993], and Dugar and Nathan [1992]), and interaction between judgmental and/or statistical forecasting methods (Bunn and Wright [1991], Fan [1990], and Hoerl and Kennard [1970]). The rejection of rational expectations gives rise to two views of the forecasting process of analysts. The first, based on an informational argument, is that the forecasting process is adaptive (Marcet and Sargent