Stock Return Effects of Accounting Information and Institutional Quality

Abstract

This paper examines the implications of accounting information quality (AIQ) and institutional quality (INQ) for stock return. We sample 39,490 listed firms across 45 countries and employ System GMM estimator as a methodological approach to shed further light on the accounting information quality-stock return nexus by examining the complex interaction between three key variables: AIQ and INQ and stock return. The results show that INQ improves AIQ which in turn impacts on stock returns in countries with high bureaucratic quality and legislative strength. Our analysis further shows that firm cash flows are more persistent than earnings showing that cash flows provide better indication of long-term sustainability of a firm than earnings. There is evidence to suggest that conservative accounting results in reversal of reported losses in future periods.