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Earnings Guidance, Bias, and Stock Price Crash Risk

62 Pages Posted: 9 May 2012 Last revised: 19 Apr 2016

Sophia J. W. Hamm

Ohio State University (OSU) - Fisher College of Business

Edward Xuejun Li

City University of New York (CUNY) - Stan Ross Department of Accountancy

Jeffrey Ng

Hong Kong Polytechnic University - School of Accounting and Finance

Date Written: April 13, 2016

Abstract

Many recent studies have explored how the properties of mandatory disclosure, such as opacity, conservatism, and comparability, are related to future stock price crashes. However, Beyer et al. (2010) estimate that mandatory disclosures account for less than 12% of the total stock return variance explained by financial disclosures, compared to over 55% from earnings guidance. We extend prior studies by investigating the relation between earnings guidance, forecast bias, and crash risk. We find a significant positive relation between guidance and crash risk that is economically large. We show that optimistic guidance drives this positive relation. We also provide the first direct evidence on how the forecast bias gets impounded into price, which leads to future crashes. We conduct a battery of tests to mitigate concerns about endogeneity and alternative explanations. Overall, our findings highlight the agency problem in guidance disclosure and its effects on capital market beyond a short horizon.

Keywords: crash risk, earnings guidance, forecast bias, agency problem

JEL Classification: G14, M41, M43

Suggested Citation

Hamm, Sophia J. W. and Li, Edward Xuejun and Ng, Jeffrey, Earnings Guidance, Bias, and Stock Price Crash Risk (April 13, 2016). Available at SSRN: https://ssrn.com/abstract=2055008 or http://dx.doi.org/10.2139/ssrn.2055008

Sophia J. W. Hamm (Contact Author)

Ohio State University (OSU) - Fisher College of Business ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States
614-292-2529 (Phone)

Edward Xuejun Li

City University of New York (CUNY) - Stan Ross Department of Accountancy ( email )

One Bernard Baruch Way, Box B12-225
New York, NY 10010
United States
646-312-3235 (Phone)

Jeffrey Ng

Hong Kong Polytechnic University - School of Accounting and Finance ( email )

Hung Hom
Kowloon
Hong Kong

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