Voice and Action: Sell-Side Analysis and Hedge Fund Activism

Abstract

Recent literature has shown hedge fund activism to be an important external corporate governance mechanism. Sell-side analysts, however, provide idea generation and analysis to buy-side clients including hedge funds. Using a propensity score matched sample, we examine sell-side analyst activity around hedge fund activism. We find that declining trends in analyst coverage begin in the year before hedge fund intervention and continue afterward. Stock market responses to analyst reports are negative before hedge fund intervention but revert to positive after. We introduce a new textual analysis dictionary to identify the activism objectives and tactics of Brav, Jiang, Partnoy, and Thomas (2008) within analyst reports and show pre-event sell-side reports contain significantly more language related to subsequent activism. Higher activism dictionary content in sell-side reports is correlated with activism-date target stock performance and predicts multiple activist interventions. Our results suggest that critical voice of sell-side analysis reveals coverage firm flaws that influence subsequent hedge fund intervention outcomes.