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Short-Term Institutions, Analyst Recommendations, and Mispricing: The Role of Higher-Order Beliefs

This paper documents how the interaction between short-term investors and analyst recommendations relates to a speculative component in stock prices that results in temporary overvaluation with predictable, large price reversals. In particular, stocks held by short-term institutions with optimistic analyst recommendations have large past outperformance, followed by large negative future alphas. Our results are robust to using Russell 2000 index reconstitutions to capture exogenous changes in institutional ownership, short-term trading and analyst coverage, and are stronger among stocks that are harder to short, consistent with limited arbitrage.