The Accrual Anomaly: Accrual Originations, Accrual Reversals, and Resolution of Uncertainty

51 Pages Posted: 3 Sep 2009 Last revised: 18 Jun 2019

See all articles by Tatiana Fedyk

Tatiana Fedyk

University of San Francisco

Zvi Singer

HEC Montreal

Theodore Sougiannis

University of Illinois at Urbana-Champaign - Department of Accountancy

Date Written: April 24, 2019

Abstract

We combine a fundamental property of accruals and a behavioral phenomenon to provide an explanation for the accrual anomaly. The fundamental property is: accruals that originate must subsequently reverse. The behavioral phenomenon is: individuals tend to underestimate the variance of noisy signals in various domains of decision-making. We argue that originating accruals represent a noisier signal than reversing accruals because the uncertainty of whether originating accruals will eventually convert into cash is high, while there is no uncertainty regarding reversing accruals. If investors underestimate the variance of originating accruals but understand reversing accruals, then originating accruals will be mispriced while reversing accruals will not. To test this prediction, we first develop and empirically validate a novel method for ex-ante detecting accrual originations and their reversals. Then we document that investors face increased uncertainty when accruals originate and decreased uncertainty when accruals reverse, and we provide evidence that only originating accruals are mispriced. We further demonstrate that our findings can be useful for improving the accrual-based trading strategy by ex-ante detecting and removing accrual reversals from extreme accrual portfolios. Overall, we provide a behavioral explanation for the accrual anomaly that is consistent with the mispricing of originating accruals only.

Keywords: accrual anomaly, accrual initiation, accrual reversal, investor fixation, accrual mispricing

JEL Classification: G12, M41

Suggested Citation

Fedyk, Tatiana and Singer, Zvi and Sougiannis, Theodore, The Accrual Anomaly: Accrual Originations, Accrual Reversals, and Resolution of Uncertainty (April 24, 2019). Contemporary Accounting Research, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1466356 or http://dx.doi.org/10.2139/ssrn.1466356

Tatiana Fedyk

University of San Francisco ( email )

2130 Fulton Street
San Francisco, CA 94117
United States

Zvi Singer (Contact Author)

HEC Montreal ( email )

3000, Chemin de la Côte-Sainte-Catherine
Montreal, Quebec H2X 2L3
Canada
514-340-1847 (Phone)

Theodore Sougiannis

University of Illinois at Urbana-Champaign - Department of Accountancy ( email )

360 Wohlers Hall
1206 South Sixth Street
Champaign, IL 61820
United States
217-244-0555 (Phone)
217-244-0902 (Fax)

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