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Forecasting Profitability and Earnings

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Author Info
Fama, Eugene F
French, Kenneth R

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Abstract

There is a strong presumption in economics that, in a competitive environment, profitability is mean reverting. We provide corroborating evidence. In a simple partial adjustment model, the estimated rate of mean reversion is about 38% per year. But a simple partial adjustment model with a uniform rate of mean reversion misses rich nonlinear patterns in he behavior of profitability. Specifically, we find that mean reversion is faster when profitability is below its mean and when it is further from its mean in either direction. We also show that the mean reversion in profitability produces predictable variation in earnings. Copyright 2000 by University of Chicago Press.

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Publisher Info
Article provided by University of Chicago Press in its journal Journal of Business.

Volume (Year): 73 (2000)
Issue (Month): 2 (April)
Pages: 161-75
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Handle: RePEc:ucp:jnlbus:v:73:y:2000:i:2:p:161-75

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  10. Schelleman,C., 2001. "Determinants of the profitability of audit engagements; An empirical study," Research Memoranda 024, Maastricht : METEOR, Maastricht Research School of Economics of Technology and Organization. [Downloadable!]
  11. Manfred Keil & Gary Smith & Margaret H. Smith, 2004. "Shrunken earnings predictions are better predictions," Applied Financial Economics, Taylor and Francis Journals, vol. 14(13), pages 937-943, September. [Downloadable!] (restricted)
  12. Christophe, Faugere, 2003. "A Required Yield Theory of Stock Market Valuation and Treasury Yield Determination," MPRA Paper 15579, University Library of Munich, Germany, revised 04 Jun 2009. [Downloadable!]
  13. Hirshleifer, David & Hou, Kewei & Teoh, Siew Hong, 2006. "The Accrual Anomaly: Risk or Mispricing?," Working Paper Series 2006-3, Ohio State University, Charles A. Dice Center for Research in Financial Economics. [Downloadable!]
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  14. Leonardo Becchetti & Fabrizio Adriani, 2004. "Do high-tech stock prices revert to their 'fundamental' value?," Applied Financial Economics, Taylor and Francis Journals, vol. 14(7), pages 461-476, April. [Downloadable!] (restricted)
  15. Juha-Pekka Kallunki & Minna Martikainen, 2003. "Earnings management as a predictor of future profitability of Finnish firms," European Accounting Review, Taylor and Francis Journals, vol. 12(2), pages 311-325, January. [Downloadable!] (restricted)
  16. Tuomo Vuolteenaho, 2001. "What Drives Firm-Level Stock Returns?," NBER Working Papers 8240, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  18. Erica X. N. Li & Dmitry Livdan & Lu Zhang, 2006. "Optimal Market Timing," NBER Working Papers 12014, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  19. A Cosh & P Guest, 2001. "The Long-Run Performance of Hostile Takeovers: UK Evidence," ESRC Centre for Business Research - Working Papers wp215, ESRC Centre for Business Research. [Downloadable!]
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