E2018010                                2018-03-24

Zhuo Huang  Dawei Lin   Zhimin Qiu

National School of Development, Peking University

Abstract

Using the decomposition method proposed by Hou and Loh (2016), we evaluate several current explanations in the literature for the accrual anomaly. Our empirical results show that cash-based operating profitability (CbOP) best explains the accrual anomaly, with an explanatory power of about 50%. Overall, explanatory indicators based on alternative risk factors account for approximately 80% of the accrual anomaly, whereas indicators based on limits to arbitrage explain less than 20%; the unexplained residual fraction is negligible. Our findings suggest that the current explanatory indicators have well explained the accrual anomaly and the efficient market framework is favored to explain this anomaly.

Keywords: Accruals; Anomalies; Asset pricing; Market efficiency; Limits to arbitrage