Advances in Accounting Behavioral Research

Khondkar E. Karim

• Publisher: Emerald Publishing Limited
• Year: 2021
• Print ISBN: 9781800710139
• eBook ISBN: 9781800710146
• Topic: Business
• Subtopic: Accounting
• Index: Business

Advances in Accounting Behavioral Research is a publication of emerging theory, methods, and practical applications for behavioral research within accounting and auditing. It is dedicated to promoting peer-reviewed research that spans all facets of accounting behavioral research, including but not limited to: applied psychology, sociology, management science, ethics, and economics. In so doing, it provides a unique, interdisciplinary forum for the discussion, development, and expansion of theories within these related subjects.

This 24th volume features five papers from experts writing on accountability pressure and budgetary slack, whistle-blowing, limited attention, audit quality and auditor responsibility, and psychological contracts. Working on both the individual and organizational level, it is essential reading for accounting students and educators, with valuable insights on practice for those working in the field.

LIMITED ATTENTION, ANALYST FORECASTS, AND PRICE DISCOVERY

Rajib Hasan and Abdullah Shahid

ABSTRACT

We highlight two mechanisms of limited attention for expert information intermediaries, i.e., analysts, and the effects of such limited attention on the market price discovery process. We approach analysts' limited attention from the perspective of day-to-day arrival of information and processing of tasks. We examine the attention-limiting role of competing tasks (number of earnings announcements and forecasts for portfolio firms) and distracting events (number of earnings announcements for non-portfolio firms) in analysts' forecast accuracy and the effects of such, on the subsequent price discovery process. Our results show that competing tasks worsen analysts' forecast accuracy, and competing task induced limited attention delays the market price adjustment process. On the other hand, distracting events can improve analysts' forecast accuracy and accelerate market price adjustments when such events relate to analysts' portfolio firms through industry memberships.

Keywords: Distracting events; expert information intermediary; forecast accuracy; limited attention; competing tasks; market reaction; price adjustment

Now we speak of an information-rich world, we may expect, analogically, that the wealth of information means a dearth of something else – a scarcity of whatever it is that information consumes. What information consumes is rather obvious: it consumes the attention of its recipients. – Herbert A. Simon (1969, p. 6)

INTRODUCTION

Analysts' earnings forecasts are important indicators of expected earnings in the market. Prior studies suggest that analysts' forecast revisions can influence the market price discovery process (Gleason & Lee, 2003; Stickel, 1991). Studies have also documented that post-earnings announcement price adjustment is not instantaneous (Ball & Brown, 1968; Bernard & Thomas, 1989, 1990). One explanation for the delayed price adjustment is that analysts, important information intermediaries, fail to fully incorporate earnings news in their decision process, leading them to underreact to such news. Abarbanell and Bernard (1992) show that analysts' underreaction could explain about half of the magnitude of the delayed stock price response to earnings news. However, it is not clear why analysts fail to fully process earnings news and provide more precise earnings forecasts.

In this paper, we examine whether analysts' limited attention is responsible for their failure to process earnings news and provide more accurate forecasts. Studies in social sciences suggest that limited attention, a condition in which individuals fail to pay due attention to the necessary stimuli in the environment, is a major reason why individuals might fail to process information. Limited attention can arise in two ways. First, when individuals are faced with competing information processing tasks within a limited amount of time, they cannot pay appropriate attention to all tasks at hand (i.e., competing tasks hypothesis), hence, the performance of all tasks is likely to suffer. Second, when there are a lot of distracting (less-than-relevant) stimuli present during the performance of a task, individuals might get distracted leading to poor task performance (i.e., distracting events hypothesis). Although analysts are sophisticated professionals, they could suffer from information processing limitations that affect investment decisions of other less sophisticated market participants (DeBondt & Thaler, 1990). In a recent survey of investment industry professionals, CFA Institute finds that in the industry “adaptiveness to change is needed for increasingly disrupted situations, but this skill is in short supply” (CFA Institute, 2017, p. 7). Competing tasks and distracting events, combined with the rapid development of mass communication technologies, are increasingly complicating the performance of sell-side analysts.

We use a sample of 5,136 North American public firms and 9,037 analysts over the period from 2000 to 2012 to examine the effects of events influencing analysts' attention on their forecast accuracy and the eventual price discovery process. We find the following for the competing tasks hypothesis: the greater is the number of competing tasks performed or faced for portfolio firms on a forecast day, the lower is the forecast accuracy of an analyst, even after controlling for various firm-specific, analyst-specific, and earnings-news specific factors. We also find that task complexity (number of business segments of a firm) further worsens forecasting accuracy, while the diversity of analysts' experience across various industries mitigates such negative effects on forecast accuracy. Next, we examine the average effects of such attention debilitating competing tasks of analysts for a firm on its post-earnings announcement market price reaction. We find a positive association between the average competing tasks performed by analysts of a firm and the absolute cumulative abnormal return in the immediate post-earnings-announcements windows. This result indicates that the greater is the average competing tasks for analysts of a firm, the longer is the post-earnings announcement price adjustment process. We further find the following for the distracting events hypothesis: there is no statistically significant association between the number of outside-portfolio earnings announcements faced by an analyst on a forecast day and the analyst's forecast accuracy. However, earnings announcements of firms that are outside an analyst's firm-portfolio but within his industry-portfolio (i.e., related distraction) enhance an analyst's forecasting accuracy. On the other hand, earnings announcements of firms that are outside an analyst's firm and industry portfolio (i.e., unrelated distraction) do seem to worsen, albeit slightly, his forecast accuracy. We also examine the average effects of such attention influencing distracting events faced by analysts of a firm on its post-earnings announcement market price reaction. Our results show that higher unrelated distractions delay the price adjustment process, while higher related distractions help accelerate the price adjustment process. This finding suggests that earnings news of firms outside an analyst's firm-portfolio but within his industry-portfolio assist his forecasting accuracy rather than impairing it. Overall, our results show that the competing tasks hypothesis largely holds, while the distracting events hypothesis holds contextually.

We emphasize some assumptions of our concepts and measures of limited attention. First, analysts have some flexibility in deciding their portfolio of work, i.e., the number of firms to follow. So, the relationship between portfolio size and “work accuracy” can be highly endogenous. Thus, we depart from the prior “portfolio size” view of limited attention (e.g., Clement, 1999). Rather, we view limited attention as day-to-day arrivals of information and tasks. Though anal...

Table of contents

• Cover
• Series Editor
• Title
• Copyright
• Contents
• List of Contributors
• The Effect of Accountability Pressure and Perceived Levels of Honesty on Budgetary Slack Creation: Vincent K. Chong, Michele K. C. Leong and David R. Woodliff
• The Effects of Machiavellianism and Ethical Environment on Whistle-blowing across Low and High Moral Intensity Settings: Derek W. Dalton
• Limited Attention, Analyst Forecasts, and Price Discovery: Rajib Hasan and Abdullah Shahid
• The Impact of Requiring Audit Documentation on Judgments of Audit Quality and Auditor Responsibility: Casey J. McNellis, John T. Sweeney and Kenneth C. Dalton
• Psychological Contract Research in Accounting Literature: Kristie M. Young, William W. Stammerjohan, Rebecca J. Bennett and Andrea R. Drake
• Index