Earnings Dispersion and Aggregate Stock Returns

37 Pages Posted: 9 Jan 2009 Last revised: 24 Aug 2011

See all articles by Bjorn Jorgensen

Bjorn Jorgensen

London School of Economics & Political Science (LSE) - Department of Accounting and Finance

Jing Li

The University of Hong Kong - School of Business

Gil Sadka

University of Texas at Dallas

Multiple version iconThere are 2 versions of this paper

Date Written: November 17, 2008

Abstract

While aggregate earnings should affect aggregate stock returns, standard portfolio theory predicts that the cross-sectional dispersion in firm-level earnings would not affect aggregate stock returns. Nonetheless, this paper demonstrates a surprisingly robust relation between cross-sectional earnings dispersion and aggregate stock returns. Particularly, we document that cross-sectional earnings dispersion is positively (negatively) correlated with contemporaneous (lagged) stock returns. We offer two alternative interpretations for our results. First, higher earnings dispersion results in short-run unemployment shocks, as workers migrate to better performing firms, suggesting that investors demand higher rates of returns when expected unemployment rises. Second, higher technological uncertainty leads to higher expected dispersion in earnings changes which results in more uncertainty about aggregate earnings changes and less predictability. Consequently, investors demand higher expected rates of return during periods of higher uncertainty about future earnings.

Keywords: accounting valuation, earnings dispersion, expected-return variation, profitability

JEL Classification: E32, G12, G14, M41

Suggested Citation

Jorgensen, Bjorn N and Li, Jing and Sadka, Gil, Earnings Dispersion and Aggregate Stock Returns (November 17, 2008). Available at SSRN: https://ssrn.com/abstract=1323925 or http://dx.doi.org/10.2139/ssrn.1323925

Bjorn N Jorgensen

London School of Economics & Political Science (LSE) - Department of Accounting and Finance ( email )

Department of Accounting Room, OLD 2.17
Houghton Street
London, WC2A 2AE
United Kingdom

HOME PAGE: http://www.lse.ac.uk/accounting/people/bjorn-jorgensen

Jing Li (Contact Author)

The University of Hong Kong - School of Business ( email )

Meng Wah Complex
Pokfulam Road
Hong Kong
China

Gil Sadka

University of Texas at Dallas ( email )

2601 North Floyd Road
Richardson, TX 75083
United States

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