Do Errors in Expectations Explain the Cross-Section of Stock Returns

Posted: 14 Aug 2001

Date Written: August 2001


Value stocks have historically outperformed growth stocks in most of the major international markets. Many researchers attribute this phenomenon to overly optimistic (pessimistic) expectations of investors for growth (value) stocks. In this paper, we use professional analysts' earnings forecasts from Japan to test this errors-in-expectations hypothesis. We compare the magnitude of the forecast errors, the proportion of optimistic and pessimistic forecasts, and the likelihood of downward forecast revisions, across growth and value stocks. In contrast to the predictions of the hypothesis, we do not find any evidence that earnings forecasts are systematically more optimistic for growth than for value stocks. Our results also suggest that the alleged correlation between book-to-market value, a common measure of growth, and forecast errors is the result of a measurement bias in computing the magnitude of the latter variable.

Keywords: Value Premium, Errors-in-Expectation, Earnings Forecasts

JEL Classification: G12, G14

Suggested Citation

Mian, G. Mujtaba and Teo, Terence, Do Errors in Expectations Explain the Cross-Section of Stock Returns (August 2001). Available at SSRN:

G. Mujtaba Mian (Contact Author)

Zayed University

P.O. Box 19282
College of Business
Dubai, Dubai 19282
United Arab Emirates
+971568120604 (Phone)

Terence Teo

Goldman Sachs Pte.

1 Raffles Link
#07-01 South Lobby
Singapore, 039393
Republic of Singapore

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