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Can the earnings fixation hypothesis explain the accrual anomaly?
Linna Shi, Nanyang Technological University
ABSTRACT. This paper provides empirical evidence to distinguish the earnings fixation hypothsis and the growth hypothsis, two competing explanations for the accrual anomaly originally documented in Sloan (1996). The earnings fixation hypothesis suggests that the accrual anomaly is due to investors’ fixatation on reported earnings while the growth hypothesis suggests that the accrual anomaly is a manifestation of a more general growth risk/anomaly. We argue that, if investors fixate on reported earnings, future returns are related to not only accruals but also the responsiveness of the stock price to earnings, which leads to the empirical prediction that the returns to the accrual strategy are positively correlated with the stock price’s responsiveness to earnings. Our empirical evidence confirms this prediction and thus lends support to the earnings fixation hypothesis, but not to the growth hypothesis.
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