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Another Specification of Ohlson's ‘Other Information’ Term for the Earnings/Returns Association: Theory and Some Evidence
Author(s) -
Easterday Kathryn E.,
Sen Pradyot K.,
Stephan Jens A.
Publication year - 2011
Publication title -
journal of business finance and accounting
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.282
H-Index - 77
eISSN - 1468-5957
pISSN - 0306-686X
DOI - 10.1111/j.1468-5957.2011.02263.x
Subject(s) - earnings , economics , explanatory power , econometrics , earnings response coefficient , post earnings announcement drift , context (archaeology) , variable (mathematics) , financial economics , term (time) , capital market , earnings growth , accounting , finance , mathematics , paleontology , mathematical analysis , philosophy , epistemology , biology , physics , quantum mechanics
Following Ohlson (2001) we characterize a variable that represents the ‘other information’ term in the Ohlson (1995 and 2001) framework using the security return specification. We interpret this variable as capturing the market's expectation that earnings change will persist into the future. This expectation can be measured using data that is readily available to capital markets researchers: future forecasts of earnings and realized accounting earnings. We show in a returns context that expectations for accelerating (decelerating) earnings growth are rewarded (discounted) by the market. While omitting other information may not be important in a reasonably long window such as a year, it becomes crucial in a shorter window. Even in the annual window, the inclusion of the earnings change persistence variable significantly improves explanatory power of the Ohlson model for returns. Finally, we offer evidence that the association of returns with earnings levels and changes observed in annual windows is robust to the quarterly time frame and we establish that the proper specification for quarterly earnings change is consecutive, not seasonal.