Download this Paper Open PDF in Browser

Earnings Metrics, Information Processing, and Price Efficiency in Laboratory Markets

55 Pages Posted: 25 Dec 2012 Last revised: 1 Mar 2015

W. Brooke Elliott

University of Illinois at Urbana-Champaign

Jessen L. Hobson

University of Illinois at Urbana-Champaign

Brian J. White

University of Texas at Austin - Department of Accounting

Multiple version iconThere are 2 versions of this paper

Date Written: February 28, 2015

Abstract

An enduring issue in financial reporting is whether and how salient summary measures of firm performance (“earnings metrics”) affect market price efficiency. In laboratory markets, we test the effects of salient earnings metrics, which vary in how they combine persistent and transitory elements, on investor information search, beliefs about value, offers to trade, and market price efficiency. We find that including transitory elements in salient earnings metrics causes traders to search unnecessarily for further information about these elements and to overestimate their effect on fundamental value relative to a rational benchmark. In contrast, separately displaying persistent elements in earnings increases the accuracy of traders’ value estimates. Prices generally reflect traders’ beliefs about value, and prices are most efficient when transitory elements are excluded from earnings metrics entirely. Our study contributes to research on salience effects in financial reporting by showing that including transitory elements in salient earnings metrics causes inefficient information search and biased beliefs about value that can aggregate to affect market prices. We also contribute to research in experimental markets by showing that redundant disclosure is not always beneficial; redundant disclosure of transitory earnings elements, in particular, appears to have negative consequences for investor behavior and market efficiency.

Keywords: earnings metrics, bounded rationality, information search, fundamental value, market price efficiency, laboratory markets

JEL Classification: C91, C92, G02, G14, M41

Suggested Citation

Elliott, W. Brooke and Hobson, Jessen L. and White, Brian J., Earnings Metrics, Information Processing, and Price Efficiency in Laboratory Markets (February 28, 2015). Available at SSRN: https://ssrn.com/abstract=2193579 or http://dx.doi.org/10.2139/ssrn.2193579

W. Brooke Elliott

University of Illinois at Urbana-Champaign ( email )

1206 South Sixth Street
Champaign, IL 61820
United States

Jessen L. Hobson

University of Illinois at Urbana-Champaign ( email )

4011 Business Instructional Facility
515 East Gregory Drive
Champaign, IL 61820
United States

Brian J. White (Contact Author)

University of Texas at Austin - Department of Accounting ( email )

Austin, TX 78712
United States

Paper statistics

Downloads
226
Rank
113,995
Abstract Views
1,261