Systematic Risk and Revenue Volatility

We introduce the degree of economic leverage (DEL) as an extension of the existing method of decomposing beta and assess its incremental explanatory power through empirical testing. The DEL is defined as the percentage change in the firm's sales resulting from a unit percentage change attributable to an exogenous economic disturbance. The exogenous economic disturbance employed is the ratio of long‐term T‐bond rates to short‐term T‐bill rates. The evidence supports the DEL's role in explaining systematic risk at both the industry and portfolio levels. However, we find mixed results at the firm level.     

An Examination of the Differential Impact of Regulation FD on Analysts' Forecast Accuracy

Regulation fair disclosure (FD) requires companies to publicly disseminate information, effectively preventing the selective pre‐earnings announcement guidance to analysts common in the past. We investigate the effects of Regulation FD's reducing information disparity across analysts on their forecast accuracy. Proxies for private information, including brokerage size and analyst company‐specific experience, lose their explanatory power for analysts' relative accuracy after Regulation FD. Analyst forecast accuracy declines overall, but analysts that are relatively less accurate (more accurate) before Regulation FD improve (deteriorate) after implementation. Our findings are consistent with selective guidance partially explaining variation in the forecasting accuracy of analysts before Regulation FD.     

The Importance of Industry and Country Effects in the EMU Equity Markets

Most empirical studies find that country effects are larger than industry effects in stock returns, although industry effects have gained in importance recently. Our results support the dominance of country effects relative to industry and common effects in the EMU equity markets in the 1975–2001 period. However, there is an increasing importance of industry effect relative to country effect in the 1990s. In fact, industry effects is similar in magnitude to country effect in the post‐euro period. The evolution of the ratio of country to industry effect is explained by the decrease in the cross‐sectional variance of interest rate movements across EMU countries. Thus, there is evidence that nominal convergence has reduced the differences between national equity markets.     

Sources of gains from international portfolio diversification

This paper looks at the determinants of country and industry specific factors in international portfolio returns using a sample of forty eight countries and thirty nine industries over the last three decades. Country factors have remained relatively stable over the sample period while industry factors have significantly increased during the last decade and dropped again since 2000. The importance of industry and country factors is correlated with measures of economic and financial international integration and development. We find that financial market globalization is the main driving force behind the changes in relative magnitude of the different shocks. Country factors are smaller for countries integrated in world financial markets and have declined as the degree of financial integration and the number of countries pursuing financial liberalization has increased. Higher international financial integration within an industry increases the importance of industry factors in explaining returns. Economic integration of production also helps in explaining returns. Countries with a more specialized production activity have higher country shocks.     

INDUSTRY EFFECTS OF ANALYST STOCK REVISIONS

We examine the industry valuation effects of analyst stock revisions and identify the variables that influence these effects. Our results show that industry rivals experience significant abnormal returns in response to revision announcements. Although the mean stock price response suggests contagion effects, there is also evidence of significant competitive effects. The valuation effects are influenced by the magnitude of the rated firm's announcement return, along with analyst‐specific and industry‐specific characteristics. However, the sensitivity of the valuation effects to these characteristics is conditioned on whether the industry effects are contagious or competitive.     

Consumption-based CAPM models: International evidence

We examine the performance of several types of the consumption-based CAPM (C-CAPM) models to explore if consumption factors matter for determining excess returns across 17 MSCI country indexes. While the classic world C-CAPM does exhibit some power in explaining cross-sectional variations of expected excess returns, the model seems to require an implausibly large coefficient of risk aversion. The more sophisticated models including the heterogeneous C-CAPM, the world surplus consumption and the habit-formation models provide more reasonable estimates and add substantial explanatory power for the variation in the cross section of excess stock returns. Our results suggest that country-specific consumption risk is not fully diversified thus implying that stock returns are related to idiosyncratic consumption risk.     

Is Country Diversification better than Industry Diversification?

In this paper, we develop a framework in which one can examine the source of industry and country diversification by examining their underlying return components. We find that the global cash flow factor explains on average 39% of the variation of country cash flows and global discount rates explain 55% of the variation of country discount rates. These are much less than the explanatory power of the two factors over industry cash flow and discount rate variations, which are 72% and 78% respectively. This suggests that global factors are much less important for return components at country level than at the industry level. As a result, both better diversification of expected returns and cash flows across countries determine the larger benefits of country diversification versus industry diversification. Moreover, emerging markets tend to have much smaller co‐movements of both dividends and expected returns with those of the world, suggesting a lower degree of integration with the world goods and financial markets. Our results cast doubt on the prevailing wisdom that country diversification should be replaced by industry diversification.     

An alternative measure of the “world market portfolio”: Determinants, efficiency, and information content

The world market portfolio plays an important role in international asset pricing, but is unobservable in practice. We first propose a framework for constructing a market proxy that corresponds to the “market portfolio” of financial theory. We then construct this proxy, analyze its determinants and test its efficiency and explanatory power over the period 1975-2007 with respect to the return generating processes of a broad asset universe. We show that its major determinants are traded assets and that it is not efficient. However, it is significant for explaining individual asset returns over an asset universe that includes stocks, bonds, money markets and commodities. The explanatory information is incremental to what is available in traded asset prices and the significance of this information is robust with respect to diversified portfolios generated by factor analysis and to characteristic-sorted portfolios as well as to various model specifications, including the single-index model, the Fama-French (1992) three factor model for stocks, and various specifications of multi-index models hedged and unhedged for foreign currency risk.     

Weighing asset pricing factors: a least squares model averaging approach

Empirical evidence has demonstrated that certain factors in asset pricing models are more important than others for explaining specific portfolio returns. We propose a technique that evaluates the factors included in popular linear asset pricing models. Our method has the advantage of simultaneously ranking the relative importance of those pricing factors through comparing their model weights. As an empirical verification, we apply our method to portfolios formed following Fama and French [A five-factor asset pricing model. J. Financ. Econ., 2015, 116, 1–22] and demonstrate that models accommodated to our factor rankings do improve their explanatory power in both in-sample and out-of-sample analyses.     

Analysts Earnings Forecasts and the Roles of Earnings and Book Value in Equity Valuation

This study examines the effect of the degree of association between current earnings and expected future earnings on the relative importance of earnings and book value for explaining equity price. Consensus analysts forecasts of one-year-ahead earnings are used to proxy for expected future earnings and are compared to reported current earnings to measure the degree of the association. We find that the value-relevance of current earnings negatively correlates with the extent to which consensus analysts forecasts deviate from current earnings. We also find that the incremental explanatory power of book value for equity price positively correlates with this measure. These results remain robust after controlling for factors known to be affecting the value-relevance of earnings such as negative earnings and the earnings-to-book ratio. Our results also show that this analysts' forecast-based measure of `earnings persistence' dominates historical earnings variance in explaining cross-sectional variations in the value-relevance of earnings and book value.     

International portfolio diversification: Currency,industry and country effects revisited

We examine the relative importance of country, industry, world market and currency risk factors for international stock returns. Our approach focuses on testing the mean-variance efficiency of the various factor portfolios. An unconditional analysis does not show significant differences between country, industry and world portfolios, nor any role for currency risk factors. However, when we allow expected returns, volatilities and correlations to vary over time, we find that equity returns are mainly driven by global industry and currency risk factors. We propose a novel test to evaluate the relative benefits of alternative investment strategies and find that including currencies is critical to take full advantage of the diversification benefits afforded by international markets.     

The role of accruals and cash flows in explaining security returns: Evidence from New Zealand

This paper empirically examines the relative and incremental information content of earnings and cash flows and the role of firm-specific contextual factors in moderating information content in New Zealand. Accounting earnings are considered to be the premier information source for decision making and a substantial volume of literature, primarily in the United States, shows that earnings provide superior information to that of cash flows. However, significant reporting differences in New Zealand warrant and investigation of the role of earnings and cash flows to explain security returns. Results show that (a) earnings have higher explanatory power than cash flows, although the difference is not statistically significant, and (b) both earnings and cash flows have incremental information content for stock returns. Further analysis shows that the valuation role of earnings and cash flows is moderated by firm-specific factors.     

Earnings, cashflows and returns: Functional relations and the impact of firm size

The relation between stock returns, earnings and cashflows is of importance because it directly addresses the issue of whether accounting data provide value relevant information. The empirical evidence to date, however, has documented low explanatory power for earnings and inconclusive incremental information content for cashflows. This research re-evaluates the incremental information content debate using Australian data. Our research is motivated by: recent innovations in research design, including the specification of nonlinear functional relations between accounting variables and prices, and the fact that differences in firm size characteristics may influence the relative information content of the accounting variables. We observe that: (i) a nonlinear functional relation provides greater explanatory power for both earnings and cashflows;(ii) the results are consistent with more transitory earnings components for smaller firms; and (iii) contrary to received theory, cashflows add greater incremental explanatory power for large firms.     

The role of Chinese economic variables on Australian and New Zealand equity returns

This study investigates the explanatory power of Chinese economic variables on Australian and New Zealand equity returns. Results suggest that Chinese economic variables have significant explanatory power for both market‐level and industry‐level portfolio returns. Our results are robust when using the principal component analysis (PCA) approach. We also find the predictive power is stronger for the post‐FTA period. In addition, the out‐of‐sample analysis confirms our previous results, suggesting that Chinese economic variables contain incremental information when estimating Australian and New Zealand equity market returns. We believe our findings have important implications for investors and policymakers in both countries.     

Pricing deviation,misvaluation comovement,and macroeconomic conditions

We measure an individual stock’s misvaluation based on the deviation of its price from predicted intrinsic value. Both under- and overvalued stocks identified by this misvaluation measure exhibit greater valuation uncertainty and arbitrage difficulty, and the misvaluation measure strongly predicts stock returns incremental to size, book-to-market ratio, past returns, and various return anomalies. Based on the misvaluation measure, we form a misvaluation factor and find that stock return covariances with this factor possess significant and robust return predictive power. We further show that the misvaluation factor predicts future economic conditions, providing additional insight into the real effect of systematic misvaluation in the stock market.     

The incremental information content of replacement cost earnings

The study explores the incremental explanatory power of replacement cost earnings variables (derived from ASR 190 data) with respect to explaining cross sectional differences in security returns. As such, the study is a natural extension of previous research, including analyses of the effect of security returns of ASR 190 data at the time of disclosure, investigations of cross sectional relationships between security returns and historical cost earnings, and studies of multiple signals. The basic finding is that pre-holding gain net income provides no incremental explanatory powerm given knowledge of historical cost earnings. However, the converse does not hold. Taken together, the findings are consistent with the contention that pre-holding gain net income is a garbled version of historical cost earnings. The basic finding is robust under several extensions of the initial research design. The research design incorporates a two-stage approach which permits a determination of the incremental explanatory power of collinear variables. The findings are in contrast to those of a previous study by Easman et al. (1979). The nature of the difference in research design inducing the difference is identified. Potential reasons for the difference in findings are provided.     

A Test of the Eclectic Paradigm: Evidence From the U.S. Reinsurance Market

This study provides a test of the eclectic paradigm with data from U.S. reinsurers. The U.S. reinsurance industry provides a unique setting to test the eclectic paradigm due to the extensive data available on U.S. reinsurers and the well‐developed literature related to reinsurance. The ability to test the hypotheses related to the eclectic paradigm in a service industry and incorporate industry‐specific factors adds to the eclectic paradigm literature which has traditionally focused primarily on manufacturing firms. In addition, the application of the eclectic paradigm to the reinsurance industry provides an empirical framework that combines several prior streams of literature which examine the reinsurer's decision to internationalize. The current study includes firm‐specific factors, country‐specific factors of the international markets, and factors related to the U.S. reinsurance industry. This article finds support for traditional factors impacting globalization such as host market size, loss experience, and competitiveness as well as reinsurer's ability to expand based on available capacity. Understanding the importance of firm‐, country‐, and industry‐specific factors is key for managers, as analyzing these issues in isolation may lead to an incomplete picture of the factors impacting the internationalization decision, hindering managers' ability to make decisions that are in the best interest of the firm. With the continued interdependence of the world reinsurance marketplace, as well as the recent expansion of the European Union, internationalization issues are of critical importance not only to U.S. insurers, reinsurers, and regulators, but also to their global counterparts.     

TRADE SIZE AND INFORMED TRADING: WHICH TRADES ARE “BIG”?

We find adverse‐selection spread components increase sharply in the ratio of trade size to quoted depth, and spike when trade size equals quoted depth. We find that two previously documented and prominent indicators of informed trading, raw trade size and high‐trading volume half‐hours, offer almost no explanatory power for informed trading measures beyond trade size to quoted depth, and a third indicator, time of day, offers no explanatory power among trades with high trade size to quoted depth. Our results suggest trade size to quoted depth is perhaps the single most important indicator that a trade is informed.     

Costs, valuation, and long-term operating effects of global strategic alliances

Using global product design and development as an example of global strategic alliance, I find that successful global strategic competition is still largely a variable cost reduction game as opposed to the recently touted fixed cost amortization game. Further, the firm's cost efficiency is enhanced when its global production initiative is characterized by a high degree of strategic alliances. Importantly, I find that global strategic alliances have both valuation effects and long-term operating effects, and that both effects are positive functions of the degree of strategic alliances. After controlling for pertinent explanatory factors such as competitive strategy posture, industry concentration, geographic spread of operation, product-type, and information technology infrastructure of firms, I find that variable cost and production efficiencies remain significant determinants of the valuation effects of global business alliances. Overall, results in this study suggest partnering firms should consider the relative efficiencies of inputs and production technology as effective ways of leveraging the benefits of global strategic alliances.     

Firm incentives,institutional complexity and the quality of “harmonized” accounting numbers

In this paper, we investigate how firm reporting incentives and institutional factors affect accounting quality in firms from 26 countries. We exploit a unique multicountry setting where firms are required to comply with the same set of international reporting standards. We develop an approach of cross-country comparisons allowing for differences between firms within a country and we investigate the relative importance of country- versus firm-specific factors in explaining accounting quality. We find that financial reporting quality increases in the presence of strong monitoring mechanisms by means of ownership concentration, analyst scrutiny, effective auditing, external financing needs, and leverage. Instability of business operations, existence of losses, and lack of transparent disclosure negatively affect the quality of accounting information. At the country level, we observe better accounting quality for firms from regulatory environments with stronger institutions, higher levels of economic development, greater business sophistication, and more globalized markets. More importantly, we find that firm-specific incentives play a greater role in explaining accounting quality than countrywide factors. This evidence suggests that institutional factors shape the firm's specific incentives that influence reporting quality. Our findings support the view that the global adoption of a single set of accounting standards in isolation is not likely to lead to more comparable and transparent financial statements unless the institutional conditions and the firm-specific reporting incentives also change.