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Tax Expense Surprises and Future Returns


  • Jacob Thomas
  • Frank Zhang


We investigate whether surprises in quarterly tax expense predict future returns, after controlling for surprises in after-tax book income. We find that seasonally-differenced quarterly tax expense, our proxy for tax expense surprise, is positively related to future returns over the next two quarters. We confirm that this anomalous link is separate from other anomalies documented in the prior literature, such as size, book-to-market, accruals, and price momentum, as well as two anomalies related to tax variables. While higher expense might intuitively imply bad news, in this case higher tax expense signals good news as it is positively related to pre and after-tax income. Our results suggest that this good news is incorporated in stock prices with a delay because investors do not recognize fully the ability of tax expense surprises to predict two key variables that are released in the next two quarters - future book income and future tax expense.

Suggested Citation

  • Jacob Thomas & Frank Zhang, 2007. "Tax Expense Surprises and Future Returns," Yale School of Management Working Papers amz2531, Yale School of Management, revised 01 Feb 2008.
  • Handle: RePEc:ysm:somwrk:amz2531

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    References listed on IDEAS

    1. Ball, Ray & Bartov, Eli, 1996. "How naive is the stock market's use of earnings information?," Journal of Accounting and Economics, Elsevier, vol. 21(3), pages 319-337, June.
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    7. X. Frank Zhang, 2006. "Information Uncertainty and Stock Returns," Journal of Finance, American Finance Association, vol. 61(1), pages 105-137, February.
    8. Carhart, Mark M, 1997. " On Persistence in Mutual Fund Performance," Journal of Finance, American Finance Association, vol. 52(1), pages 57-82, March.
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    10. Jeffrey T. Doyle & Russell J. Lundholm & Mark T. Soliman, 2006. "The Extreme Future Stock Returns Following I/B/E/S Earnings Surprises," Journal of Accounting Research, Wiley Blackwell, vol. 44(5), pages 849-887, December.
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    Cited by:

    1. Richardson, Scott & Tuna, Irem & Wysocki, Peter, 2010. "Accounting anomalies and fundamental analysis: A review of recent research advances," Journal of Accounting and Economics, Elsevier, vol. 50(2-3), pages 410-454, December.

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    tax expense; stock return; anomaly; momentum;


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