Forecast Accuracy Uncertainty and Momentum

31 Pages Posted: 22 May 2006 Last revised: 13 Nov 2013

See all articles by Bing Han

Bing Han

University of Toronto, Rotman School of Management

Dong Hong

Singapore Management University - Lee Kong Chian School of Business

Mitch Warachka

Chapman University

Date Written: August 1, 2007

Abstract

We demonstrate that stock price momentum and earnings momentum can result from uncertainty surrounding the accuracy of cashflow forecasts. Our model has multiple information sources issuing cashflow forecasts for a stock. The investor combines these forecasts into an aggregate cashflow estimate that has minimal mean-squared forecast error. This aggregate estimate weights each cashflow forecast by the estimated accuracy of its issuer, which is obtained from their past forecast errors. Momentum arises from the investor gradually learning about the relative accuracy of the information sources and updating their weights. Empirical tests validate the model's prediction of stronger momentum in stocks with large information weight fluctuations and high forecast dispersion. We also identify return predictability attributable to changes in the information weights.

Keywords: Forecast Accuracy, Uncertainty, Momentum, Bounded Rationality, Appearance of Behavioral Biases

JEL Classification: G12, G14

Suggested Citation

Han, Bing and Hong, Dong and Warachka, Mitch, Forecast Accuracy Uncertainty and Momentum (August 1, 2007). EFA 2006 Zurich Meetings. Available at SSRN: https://ssrn.com/abstract=903681 or http://dx.doi.org/10.2139/ssrn.903681

Bing Han (Contact Author)

University of Toronto, Rotman School of Management ( email )

Toronto, Ontario M5S 3E6
Canada
4169460732 (Phone)

Dong Hong

Singapore Management University - Lee Kong Chian School of Business ( email )

50 Stamford Road
178899
Singapore

Mitch Warachka

Chapman University ( email )

Orange, CA 92866
United States

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
496
Abstract Views
2,521
rank
59,049
PlumX Metrics