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The information environment and the ability of logit‐based financial statement analysis to predict abnormal returns
Author(s) -
Morton Richard M.,
Shane Philip B.
Publication year - 1998
Publication title -
accounting and finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.645
H-Index - 49
eISSN - 1467-629X
pISSN - 0810-5391
DOI - 10.1111/1467-629x.00005
Subject(s) - inefficiency , financial statement analysis , logit , equity (law) , portfolio , economics , financial statement , financial ratio , financial economics , financial analysis , statement (logic) , modern portfolio theory , financial market , econometrics , business , actuarial science , finance , accounting , microeconomics , audit , political science , law
Holthausen and Larcker (1992) show that logit‐based financial statement analysis can predict abnormal returns on investments in equity securities. We argue that if this success of financial statement analysis is due to market inefficiency, then the procedure should work better for small firms than larger firms, where firm‐size proxies for the amount of information processing in the firm's information environment. We do not find greater predictable hedge portfolio returns associated with the analysis of small‐firm financial statements. Thus, our results conflict with the market inefficiency explanation. Our results are more consistent with financial statement analysis providing summary information about expected returns not subsumed by other risk proxies and not accounted for in the researcher's definition of abnormal returns.