Sentiment, Loss Firms, and Investor Expectations of Future Earnings

49 Pages Posted: 25 Sep 2017 Last revised: 24 Apr 2020

See all articles by Eddie Riedl

Eddie Riedl

Boston University - Questrom School of Business

Estelle Sun

Boston University - Questrom School of Business

Guannan Wang

Suffolk University

Multiple version iconThere are 2 versions of this paper

Date Written: September 22, 2017

Abstract

This study investigates the mispricing of market-wide investor sentiment by exploring the relation between sentiment and investor expectations of future earnings. Prior research argues that sentiment-driven mispricing should be most pronounced for hard-to-value firms, such as those reporting losses (Baker and Wurgler 2006). Using investor expectations of future earnings, we provide empirical results consistent with this behavioral finance theory. We predict and find that investors perceive losses to be more (less) persistent during periods of low (high) sentiment; that (in contrast) investors perceive profit persistence to be lower (higher) during periods of low (high) sentiment; and that the effects appear stronger for loss firms relative to profit firms. We also document predictable cross-sectional variation within losses, with the mispricing mitigated for losses associated with activities expected to generate future benefits: R&D, growth, large negative special items, and severe financial distress. Overall, our results document a new and important channel—investor expectations of future earnings—to explain sentiment-driven mispricing.

Keywords: investor sentiment, mispricing, earnings persistence, losses

JEL Classification: D21, G02, G11, M41

Suggested Citation

Riedl, Edward J. and Sun, Estelle Yuan and Wang, Guannan, Sentiment, Loss Firms, and Investor Expectations of Future Earnings (September 22, 2017). Contemporary Accounting Research, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3041709 or http://dx.doi.org/10.2139/ssrn.3041709

Edward J. Riedl

Boston University - Questrom School of Business ( email )

595 Commonwealth Avenue
Boston, MA MA 02215
United States
617-353-2317 (Phone)

Estelle Yuan Sun (Contact Author)

Boston University - Questrom School of Business ( email )

595 Commonwealth Avenue
Boston, MA MA 02215
United States
1-617-353-2353 (Phone)

Guannan Wang

Suffolk University ( email )

Sawyer School of Management
Boston, MA 02108
United States

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