The Effect of Financial Analysts' Strategic Behavior on Analysts' Forecast Dispersion

Financial analysts' forecast dispersion has been used in a variety of contexts in accounting and finance studies. In this study, we provide large sample evidence on the cross-sectional determinants of forecast dispersion and examine to what extent analysts' strategic behavior biases the observed dispersion from the dispersion of unmanaged forecasts. We propose a method to estimate the dispersion bias for each sample observation. We find that observed dispersion, on average, understates dispersion of unmanaged forecasts by 53.4 percent and this downward bias varies considerably across firms. We further discuss the implications of the significant cross-sectional variation in the bias in observed dispersion for studies that rely on dispersion to estimate constructs such as consensus and information quality as well as those that use dispersion directly in research design.