Abstract

This study investigates the possible conflicts of interest of security analysts with market investors when making earnings forecasts. Using a sample of listed companies in Taiwan, we show evidence of close connections between analysts' earnings forecasts and their firm's proprietary dealing department's trading patterns, specifically, our findings indicate that the analyst firm's proprietary trading actions tend to be in the opposite direction as suggested by the earnings forecasts, whether they are optimistic or pessimistic. Additionally, the returns on proprietary dealing department's opposite-direction trading stocks are better than no opposite-direction trading ones. Hence we presume the conflicts of interest exist in analysts' earnings forecasts. Furthermore, we find that the conflicts of interest are presented in stocks of both electronic and traditional companies under the optimistic earnings forecasts, but exist only in electronic companies given pessimistic forecasts, suggesting a possible industry effect of conflicts of interest when earning forecasts’ biases are positive.