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Investor Sentiment and the (Discretionary) Accrual-return Relation

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Abstract

Discretionary accruals are positively associated with stock returns at the aggregate level but negatively so in the cross section. Using Baker-Wurgler investor sentiment index, we find that a significant presence of sentiment-driven investors is important in accounting for both patterns. We document that the aggregate relation is only prominent during periods of high investor sentiment. Similarly, the cross-section relation is considerably stronger in high-sentiment periods in both economic magnitude and statistical significance. We then embed investor sentiment into a stylized model of earnings management, and illustrate that a positive (negative) relationship between stock returns and earnings management can endogenously emerge in the aggregate (cross section). Our analysis suggests that the (discretionary) accrual-return relation at both the aggregate and firm levels at least partially reflects mispricing that is related to market-wide investor sentiment.

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  • Jiajun Jiang & Qi Liu & Bo Sun, 2020. "Investor Sentiment and the (Discretionary) Accrual-return Relation," International Finance Discussion Papers 1300, Board of Governors of the Federal Reserve System (U.S.).
    • Handle: RePEc:fip:fedgif:1300
    DOI: 10.17016/IFDP.2020.1300
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    More about this item

    Keywords

    Investor sentiment; Uncertainty; Earnings management; Accrual anomaly;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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