Solving the Price-Earnings Puzzle

UTS Working Paper No. 116

13 Pages Posted: 2 Feb 2006

See all articles by Carl Chiarella

Carl Chiarella

University of Technology, Sydney - UTS Business School, Finance Discipline Group

Shenhuai Gao

University of Sydney Business School

Date Written: April 2002

Abstract

Accounting and finance professionals have empirically known that in the long run stock prices are roughly proportional to earnings. However, econometric testing could not been able to verify this expected contribution of earnings to stock prices, thus formed the price-earnings (PE) puzzle in the accounting literature. This paper seeks to solve this puzzle by allowing the earnings response coefficient to be a variable instead of a constant, and shows that the PE puzzle turns out to be a phenomenon of type I spurious regression in econometrics.

Keywords: price (returns)-earnings relation, earnings response coefficient, type I spurious regression

JEL Classification: C22, G12, M41

Suggested Citation

Chiarella, Carl and Gao, Shenhuai, Solving the Price-Earnings Puzzle (April 2002). UTS Working Paper No. 116, Available at SSRN: https://ssrn.com/abstract=880002 or http://dx.doi.org/10.2139/ssrn.880002

Carl Chiarella (Contact Author)

University of Technology, Sydney - UTS Business School, Finance Discipline Group ( email )

PO Box 123
Broadway, NSW 2007
Australia
+61 2 9514 7719 (Phone)
+61 2 9514 7711 (Fax)

HOME PAGE: http://www.business.uts.edu.au/finance/

Shenhuai Gao

University of Sydney Business School ( email )

Cnr. of Codrington and Rose Streets
Sydney, NSW 2006
Australia

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
352
Abstract Views
2,464
Rank
129,238
PlumX Metrics