Feedback loops, fair value accounting and correlated investments

Feedback loops, fair value accounting and correlated investments This paper presents and tests a model of the price dynamics that arise when investors fail to recognize the redundancy of unrealized gains and losses (“UGLs”) that are correlated with the firm’s past returns. Consistent with the predictions of our model, our experiment shows that a firm’s prices and earnings become highly volatile when correlated investment is large and correlated UGLs are made salient by comprehensive income reporting. The results suggest that including correlated UGLs in performance numbers could induce violations of weak-form efficiency that exacerbate volatility in share prices and earnings. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Review of Accounting Studies Springer Journals

Feedback loops, fair value accounting and correlated investments

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Publisher
Kluwer Academic Publishers-Plenum Publishers
Copyright
Copyright © 2006 by Springer Science+Business Media, LLC
Subject
Business and Management; Accounting/Auditing; Corporate Finance; Public Finance
ISSN
1380-6653
eISSN
1573-7136
D.O.I.
10.1007/s11142-006-9003-2
Publisher site
See Article on Publisher Site

Abstract

This paper presents and tests a model of the price dynamics that arise when investors fail to recognize the redundancy of unrealized gains and losses (“UGLs”) that are correlated with the firm’s past returns. Consistent with the predictions of our model, our experiment shows that a firm’s prices and earnings become highly volatile when correlated investment is large and correlated UGLs are made salient by comprehensive income reporting. The results suggest that including correlated UGLs in performance numbers could induce violations of weak-form efficiency that exacerbate volatility in share prices and earnings.

Journal

Review of Accounting StudiesSpringer Journals

Published: Jun 15, 2006

References

  • Is comprehensive income superior to net income as a measure of firm performance?
    Dhaliwal, D.; Subramanyam, K. R.; Trezevant, R.
  • Market efficiency, bounded rationality, and supplemental business reporting disclosures
    Dietrich, J. R.; Kachelmeier, S. J.; Kleinmuntz, D. N.; Linsmeier, T. J.

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