Earnings Volatility and Informativeness: Evidence from the U.S.

Abstract

This study examines how the volatility of earnings influences the integration of public accounting information on earnings announcements. When earnings are volatile, leading to uncertain and less persistent earnings, the capital market has difficulty interpreting the inherent impact of earnings on future cash flows. If earnings deliver obscure and less insightful information about future cash flows, I expect investors to be more diverse and hesitant to interpret current earnings information and to rely less on earnings announcement news and more on private information before earnings releases. As an earnings informativeness measure, I utilize Weller (2018)’s price jump ratio. Earnings consist of cash flows and accruals. Therefore, the volatility of these individual components, respectively, influences earnings volatility. The covariance of earnings components also influences earnings volatility. The variance of the 5-year rolling period is adopted as an earnings (components) volatility measure. Using Dechow and Dichev (2002)’s accrual estimation errors measure, I investigate how the degree of uncertainty linked to the accruals-to-cash flows mapping is associated with earnings informativeness. Based on the sample of the U.S. companies traded on NYSE and NASDAQ from 2001 to 2022, this study shows that higher earnings (components) volatility leads to greater uncertainty about the economic value of firms on earnings announcements, thereby mitigating earnings informativeness. However, as the co-movement between earnings and their components increases, the negative effects are mitigated.