Earnings Predictability, Information Asymmetry, and Market Liquidity

We investigate the relation between earnings predictability, information asymmetry and the behavior of the adverse selection cost component of the bid-ask spread around quarterly earnings announcements for NASDAQ firms. While we find an increase in the adverse selection component of the bid-ask spre...

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Bibliographic Details
Published in:Journal of accounting research 2002-06, Vol.40 (3), p.561-583
Main Authors: Affleck-Graves, John, Callahan, Carolyn M., Chipalkatti, Niranjan
Format: Article
Language:English
Subjects:
Adverse selection
Analytical forecasting
Asked price
Asymmetry
Automation
Bids
Capital markets
Correlation analysis
Cost estimates
Costs
Earnings
Earnings forecasting
Earnings per share
Equity capital
Error rates
Forecasting standards
Hypotheses
Inventory
Liquidity
Mathematical models
Nasdaq Composite Index
Order processing
Parameter estimation
Predictability
Predictions
Regression analysis
Spread
Stock exchanges
Studies
Time series forecasting
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Summary:We investigate the relation between earnings predictability, information asymmetry and the behavior of the adverse selection cost component of the bid-ask spread around quarterly earnings announcements for NASDAQ firms. While we find an increase in the adverse selection component of the bid-ask spread on the day of and the day prior to quarterly earnings announcements for firms with less predictable earnings, we find no evidence of such changes for firms with more predictable earnings. During a non-announcement period, we find that firms with relatively less predictable earnings have consistently higher total bid-ask spreads than firms with more predictable earnings. This finding suggests that firms with relatively less predictable earnings have a higher cost of equity capital than comparable firms with more predictable earning streams, ceteris paribus. Hence, earnings predictability may be a legitimate concern of managers who wish to minimize their cost of equity capital at least as it pertains to bid-ask spreads.
ISSN:0021-8456
1475-679X
DOI:10.1111/1475-679X.00062