The Relation Between Changes in the Information Content of Earnings and Expected Stock Returns: Empirical Evidence for Japan.

Abstract

This paper examines the relationship between changes in the information content of earnings with expected stock returns for the Japanese market during the period of 1991-2001. Results show that a mimicking portfolio return that relates to changes in the information content of earnings, explains a portion of the cross sectional variation in expected returns. Particularly, investors lower (appreciate) firms' stock price whenever firms experience decreases (increases) in the information content of earnings, to enable them to earn higher (lower) expected returns. This relation remains robust to the inclusion of market, size, and book-to-market factors. In addition, this article investigates the extent to which changes in the information content of earnings relate systematically with size and book-to-market factors. Neither the size effect nor the book-to-market effects are found within the changes in the information content of earnings effect. Overall, the findings suggest that changes in the information content of earnings, is a unique effect not captured by the Fama and French (1992) three-factor model. © Andreas Charitou, Eleni Constantinidis, Christodoulos Louca, 2012.