The authors offer two propositions. The first proposition states that companies whose fundamentals are similar to those of other companies in their industry attract more analyst coverage. The second proposition states that earnings estimates of companies with a large analyst following, or “bellwether firms,” influence the returns of companies with similar fundamentals but for which information is sparse because of limited analyst coverage. These ideas are shown to have a significant impact on return and volatility characteristics.

Consistent with the first proposition, the authors find that more analysts cover companies with fundamentals that are similar to those of other companies. This analysis holds after they control for market capitalization, trading volume, volatility, and institutional ownership. Because analysts might be considered information intermediaries who are seeking to maximize profits for their firm, the idea supports the notion that investors value investment information that can be used for several companies in the same industry over idiosyncratic information, and therefore, investors are willing to pay more for this more usable information.

Supporting the second proposition, the authors find that companies with limited analyst coverage are notably affected by information spillover from their more well-covered fellow companies, which they call “industry bellwether firms.” These bellwether companies are designated as such by two criteria. First, the company’s stock has significant analyst coverage and has the largest partial correlation in fundamentals with other companies in their respective industry. When analysts revise their earnings estimates of these bellwether firms, they find significant effects on the current and future stock prices of their non-bellwether industry peers; the strongest effects are felt by firms with low analyst coverage. The authors find that institutional investors buy firms with low or zero analyst coverage that have correlated fundamentals with bellwether firms when those bellwether firms’ earnings estimates are revised upward. This effect is unidirectional because companies that have no or low analyst coverage do not predict the prices of bellwether firms.

The authors’ research, which is in agreement with the efficient market hypothesis, supports the idea that companies with extensive analyst coverage find that their stock price immediately reflects new information. But companies with correlated fundamentals with bellwether firms show stock movement with a lag. The authors conclude that investors use information supplied by analysts about bellwether stocks to value comparatively ignored companies, inducing comovement in their stock returns.

The authors use all common stock listed on the NYSE, AMEX, and NASDAQ for the period from 1984 to 2011, excluding companies whose stock had an average trading price under $1 to reduce bid–ask effects and market frictions associated with penny stocks. They merge stock price information and earnings data in CRSP and Compustat with analyst coverage data in the I/B/E/S and the Thomson Reuters Institutional Holdings database.

Over the 27-year period, they find that, on average, 4,951 firms had analyst coverage in any given year. The average number of analysts covering a company was 4.6, with a median of 2, which indicates a positively skewed distribution. The authors sort equally among three groups based on analyst coverage (high, medium, low) and a fourth group of zero-coverage companies. The high analyst group averaged almost 14 analysts, whereas the low group averaged fewer than 2. They find that almost one-third of the companies, or 1,611, on average, per year did not have any analyst coverage. Unsurprisingly, the findings reveal that companies with the largest market capitalizations, institutional ownership, and trading activity have the highest analyst coverage. These same companies also show returns that are less volatile when compared with zero or low analyst firms.