Regulation fair disclosure and the market’s reaction to analyst investment recommendation changes Marcia Millon Cornett a, * , Hassan Tehranian b,1 , Atakan Yalc ¸ın c,2 a College of Business and Administration, Southern Illinois University, Carbondale, IL 62901, United States b Wallace E. Carroll School of Management, Boston College, Chestnut Hill, MA 02467, United States c Graduate School of Business, Koc ¸ University, Istanbul 34450, Turkey Received 18 March 2005; accepted 15 December 2005 Available online 27 July 2006 Abstract Previous research has shown that affiliated analysts (those who are working for investment banks that underwrite securities for companies) have an incentive to provide optimistically biased recom- mendations from selective information they are given by the firm. In an effort to halt such activities, as of October 2000, Regulation Fair Disclosure (RegFD) prohibits selective disclosure of material non-public information by public companies to privileged individuals (such as favored research ana- lysts) and requires broad, non-exclusionary disclosure of such information. We examine firms’ stock price reactions to investment recommendation changes from affiliated analysts versus unaffiliated analysts from October 1998 to November 2002, around the passage of RegFD. Similar to previous research, we find that investors reacted more significantly to recommendation downgrades by affil- iated analysts than to those by unaffiliated analysts prior to the passage of RegFD. However, we find that the difference in the reactions to recommendation changes is not present after the passage of RegFD. We also find that stock price reactions to analysts’ (both affiliated and unaffiliated) recom- mendation changes decreased significantly after the passage of RegFD. Thus, RegFD appears to have curbed the selective disclosure of information (particularly negative information) by firms to affiliated analysts. Further, the smaller reactions to recommendation changes by all analysts after RegFD may reflect a change in analysts’ behavior (irrespective of information that is available) or 0378-4266/$ - see front matter Ó 2006 Elsevier B.V. All rights reserved. doi:10.1016/j.jbankfin.2005.12.009 * Corresponding author. Tel.: +1 618 453 1417. E-mail addresses: mcornett@cba.siu.edu (M.M. Cornett), hassan.tehranian@bc.edu (H. Tehranian), atyalcin@ku.edu.tr (A. Yalc ¸ın). 1 Tel.: +1 617 552 3944. 2 Tel.: +90 212 338 1645. Journal of Banking & Finance 31 (2007) 567–588 www.elsevier.com/locate/jbf