Calculators, lemmings...
Introduction
Securities analysts play a crucial role in financial markets, influencing investment decisions through reports, recommendations, and price targets.
Understanding their work offers insights into value determinants in capital markets.
Analysts face 'Knightian uncertainty', as they deal with unknowns in future valuations.
Knightian Uncertainty and Analysts
Frank Knight's concept: decisions made under uncertainty involve partial knowledge rather than complete ignorance or information.
Existing literature on analysts often overlooks this uncertainty, dividing into two main positions:
Orthodox Economists: View analysts as calculators in a risk-based environment, assuming no Knightian uncertainty.
Behavioral Finance & Neo-Institutional Sociology: Suggest analysts mimic others due to excessive uncertainty.
Both positions fail to address the actual challenge faced by analysts: decision-making with limited knowledge.
Analysts as Critics
Emerging literature recognizes analysts as critics who assess the value of uncertain securities.
This perspective reintroduces Knightian uncertainty, emphasizing analysts' social role in producing critiques that reflect existing market orders.
Analysts recreate existing categories, which sometimes depress the value of outlier companies.
Unanswered Questions in the Critics Approach
Value Addition: If analysts merely classify stocks, how do they add value to portfolio managers?
Emergence of New Categories: The critics approach fails to explain how new categories arise in financial markets.
Star Analysts: Questions remain about how unknown analysts achieve prominence in the field.
Methodology
The study conducts qualitative content analysis of analyst reports during the Internet bubble (1998-2000), focusing on Amazon.com.
Grounded-theory approach explores cognitive processes analysts employ in real-time decision-making, highlighting 'calculative frames'.
Comparison Focus: Reports by analyst Henry Blodget compared with contrasting analysts to derive theoretical insights.
Calculative Frames
Analysts form 'calculative frames', encompassing categorizations, analogies, and metrics for evaluating companies.
Example of two contrasting frames for Amazon:
Internet Company Frame (Blodget): Focuses on revenue growth, leading to optimistic valuations.
Book Retailer Frame (Cohen): Highlights profitability constraints, resulting in conservative valuations.
The Role of Frame-Making
Frames reflect analysts' interpretive tools used to navigate Knightian uncertainty.
Analysts help investors by developing new frames that facilitate stock valuation.
The Financial Controversy Over Amazon.com
Episode 1: Blodget vs. Cohen
Blodget raises price target from $150 to $400 against Cohen’s $50 'sell' recommendation, highlighting divergent valuation standards.
Resulted in significant trading volume and showcased the influence of analyst valuations.
Episode 2: Blodget vs. Abelson
Following large losses, Abelson critiques Amazon, but Blodget reinterprets the critiques positively, demonstrating framing resilience.
Episode 3: Blodget vs. Suria
Suria's report challenges Blodget’s valuation, leading to Blodget's declining reputation and the emergence of Suria as a star.
Illustrates frame abandonment affected by information processing and social context.
Discussion
The study's primary conceptual advancements focus on the dynamics of frame-making, framing controversies, and the active role analysts play in navigating uncertainty.
Analysts are not just passive critics; they are active participants in shaping market perceptions through the construction of calculative frames.
The exploration of these frames informs better understanding of how value is derived and communicated in financial markets.