Accounting Conservatism and Transitory Earnings in Value and Growth Strategies
Norwegian School of Economics (NHH)
Institute of Economic Studies, Faculty of Social Sciences, Charles University in Prague, Czech Republic
December 3, 2009
Journal of Business Finance & Accounting, Forthcoming
The value premium earned on value and growth investment strategies increases after adjusting for transitory earnings and for the accounting conservatism bias in the book value of equity. Simple investment strategies based on earnings-to-price (E/P) and book-to-market (B/M) performed on the Swedish stock market between 1980 and 2004 generate an annual value premium of 11 to 14 percent. Adjustments for transitory earnings and for the conservatism bias increase the value premium by 2 to 4 percentage points, and at the same time they improve the consistency of earning it. These results suggest that transitory earnings and accounting conservatism introduce noise into E/P and B/M measures. Adjusting for these accounting characteristics makes the identification based on E/P and B/M more effective.
Keywords: market efficiency, value strategy, growth strategy, earnings-to-price, book-to-market, transitory earnings, accounting conservatism
JEL Classification: G14Accepted Paper Series
Date posted: December 13, 2009
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