The Performance of Mechanical Earnings Forecasts

46 Pages Posted: 25 Sep 2017 Last revised: 9 Jan 2019

See all articles by Dieter Hess

Dieter Hess

University of Cologne - Department of Corporate Finance; University of Cologne - Centre for Financial Research (CFR)

Martin Meuter

University of Cologne - Faculty of Management, Economics and Social Sciences

Ashok Kaul

Saarland University; University of Zurich

Date Written: January 2019

Abstract

We analyze three different mechanical models to forecast earnings and compare their forecasts with those of analysts. Moreover, we evaluate implied cost of capital (ICC) estimates that are based on these forecasts. With our analyses we answer three open questions in the literature. 1) Do model forecasts or analysts’ forecasts perform better? 2) Are ICCs derived from analysts’ forecasts more reliable than ICCs based on model forecasts? And 3) does higher forecast performance also translate into more reliable ICCs? First, we find that analysts’ forecasts are even more accurate than the most accurate model forecasts. However, second, we find that model-based ICCs are always more reliable than analyst-based ICCs. Moreover, model-based ICCs are particularly reliable for a sample of firms for which no analysts’ forecasts are available. While the lack of reliability of analyst-based ICCs seems to indicate a missing link between forecast performance and ICC reliability, in fact, third, we find that ceteris paribus higher forecast performance translates into more reliable ICCs, that is, within one earnings definition the most accurate forecasts also yield the most reliable ICCs.

Keywords: Earnings Forecasts, Cross-Sectional Earnings Model, Forecast Performance, Implied Cost of Capital (ICC)

JEL Classification: G12, G17, M40, M41

Suggested Citation

Hess, Dieter and Meuter, Martin and Kaul, Ashok, The Performance of Mechanical Earnings Forecasts (January 2019). Available at SSRN: https://ssrn.com/abstract=3041364 or http://dx.doi.org/10.2139/ssrn.3041364

Dieter Hess

University of Cologne - Department of Corporate Finance ( email )

Corporate Finance Seminar
Albertus-Magnus-Platz
D-50923 Cologne
Germany
+49 221 470 7876 (Phone)
+49 221 470 7466 (Fax)

HOME PAGE: http://cf.uni-koeln.de/

University of Cologne - Centre for Financial Research (CFR)

Germany

Martin Meuter (Contact Author)

University of Cologne - Faculty of Management, Economics and Social Sciences ( email )

Richard-Strauss-Str. 2
Cologne, D-50923
Germany

HOME PAGE: http://www.cf.uni-koeln.de/en/

Ashok Kaul

Saarland University ( email )

Campus C 31
Saarbrücken, 66123
Germany

University of Zurich ( email )

Rämistrasse 71
Zürich, CH-8006
Switzerland

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