Financial Reporting Quality and Idiosyncratic Return Volatility Over the Last Four Decades

Abstract

Campbell, Lettau, Malkiel and Xu (2001) show that stock returns of individual firms have become more volatile in the U.S. since 1960. We hypothesize and find that deteriorating earnings quality is associated with higher idiosyncratic return volatility over the period 1962-2001. These results are robust to controlling for (i) inter-temporal changes in the disclosure of value-relevant earnings information, sophistication of investors and for the possibility that earnings quality can be informative about future cash flows; (ii) stock return performance, cash flow operating performance, cash flow variability, growth, leverage and firm size; and (iii) accounting for new listings, high technology firms and firm-years with losses, mergers and acquisitions and financial distress.

Keywords: information risk, idiosyncratic volatility, earnings quality, forecast dispersion

JEL Classification: D8, M41, G10