Question

Consider a hypothetical exercise to evaluate the skill of four financial analysts (Analyst 1, Analyst 2, Analyst 3, and Analyst 4). On December 31 of a given year, each analyst tries to pick a ‘good’ U.S. stock. On December 31 of the subsequent year, the return on this stock is recorded.

Suppose that the returns on the stocks picked by the analysts were as follows:

i. Analyst 1, +14%;

ii. Analyst 2, +15%;

iii. Analyst 3, +16%; and

iv. Analyst 4: +17%.

Do these returns suggest that:

a. The four analysts do not have skill;

b. The four analysts have skill;

c. None of the above?

Please base your answer only on: (a) the information provided above; and (b) our in-class discussions.

Answer 1

Based on only the information provided above we cant comment if the 4 analyst have skill or not since they have predicted only 1 stock correctly. The skill of a Analyst can be found through Information Coefficient (IC),

where IC= 2fr-1 ; fr= fraction of correct prediction of stock direction.

Here in this case each analyst has only dealt with one stock; to establish a analyst has skill or not he need to atleast tries to pick a good stock more than 2 times.

Hence Option C is suggested