Abstract
The geopolitical risk, which encompasses various factors such as wars, political instability, sanctions, and terrorism, is characterised as one of the key elements containing negative signals that cast significant economic influence on global markets in modern days. Notably, by affecting the companies' operations, supply chains, profitability, and subsequently the asset prices, the adverse information of the geopolitical incidents can ultimately result into firm-level effects. Hence, understanding and managing the information inherently tied to geopolitical risks is essential for investors and businesses operating in global markets. Prior literature has provided evidence that geopolitical risk leads to increased uncertainty, hence influence the market participants’ sentiment. For example, extreme negative geopolitical events, including outbreak of wars and terrorist attacks can either reduce individual investors’ confidence and compel them to be more precautious (see e.g., (Kaplanski and Levy, 2010; Berkman, Jacobsen and Lee, 2011; Wang and Young, 2020; Cuculiza et al., 2021)) or encourage sophisticated investors to trade more aggressively to incorporate the contemporary information advantage (see e.g., (Amiram, Owens and Rozenbaum, 2016; Chen, Kelly and Wu, 2020)). However, the importance of how sell-side equity analysts react to the negative information from the geopolitical risk has been disregarded for an extended period. Since analysts play a critical role as the information intermediation by providing valuable insights and information to investors and other market participants, it requires investigation on how they react to the geopolitical risk information. Therefore, in this thesis, we aim to examine the extent to which analysts can incorporate the information from the geopolitical risk into their work and the underlying mechanism of their reaction to the geopolitical risk.Focusing on the sell-side equity analysts earnings forecasts between 1985 and 2021, we uncover strong evidence that equity analysts do not incorporate the negative information from the extreme geopolitical incidents into their forecasts and express general over-optimistic sentiment regarding the affected firms, therefore under-react to the adverse signals from the geopolitical risk. Moreover, our findings indicate the existence of the heterogeneity in the analysts’ under-reaction across industries, firms and analysts groups.
However, considering the magnificent influence of the geopolitical risk which it produces aggregate level and global impact on the market, it is likely that analysts would percept the negative signals and are immune from the effects of the geopolitical risk. Thus we also study the underlying mechanism of the analyst under-reaction by focusing on the intuitive responses of analysts. We find that as geopolitical risk increases, analysts are slightly more inclined to issue fewer positive recommendations and disseminate more negative recommendations. This response aligns with the primary and straightforward approach individuals take to manage extreme adverse events. However, we also document that the main driver of the analysts reaction is their tendency to provide ‘hold’ recommendations more frequently in response to increasing geopolitical risk. This phenomenon suggests equity analysts believe that there is no new information from the geopolitical incidents would affect the firm’s assets price.
Our research not only contributes to several strands of literature on geopolitical risk, analysts behaviour and price efficiency, but also provides several practical implications for market participants, especially vulnerable individual investors in reviewing the information from the equity analysts when making investment decisions, and firms in considering building potential connections with equity analysts.
| Date of Award | 21 Feb 2024 |
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| Original language | English |
| Awarding Institution |
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| Supervisor | Dimitrios Gounopoulos (Supervisor), Emmanouil Platanakis (Supervisor) & David Newton (Supervisor) |