Analyst Forecast Dispersion, R&D and Stock Returns: Evidence from the Uk

Existing literature has documented that research and development (R&D) expenses have a statistically significant influence on subsequent stock returns, and that R&D-intensive firms are characterized by significant excess risk-adjusted market returns. The study examines whether these R&D-related effects on returns are robust with regards to controlling for analyst forecast dispersion, decomposed into a pure lack of consensus and a forecast uncertainty component, according to Barron, Kim, Lim, and Stevens (1998). Information received from R&D expenses is expected to be non-exhaustive of the risk and uncertainty arising from R&D investments, regarding the future economic performance of R&D-intensive firms. This is first because of a mismatch between expected future costs and benefits of R&D, due to the expensing of such costs. In addition, R&D investments are inherently characterized by a very high uncertainty of future benefits. Thus, controlling for forecast uncertainty and consensus is considered necessary because these analyst forecast characteristics are expected to capture additional R&D-related economic information with a possibility to affect stock returns, compared to R&D expenses. At the same time, forecast dispersion and/or its components per se have been significantly associated with stock returns as well. The study documents that significant excess returns of R&D-intensive firms observed by prior literature generally disappear upon controlling for forecast uncertainty and lack of consensus. The study contributes to prior literature by providing, for the first time, evidence that significant excess returns for R&D-intensive firms no longer exist, upon implementing more controls for R&D-related information deficiencies.