An Analysis of Stock Returns and Aggregate Earnings

We reexamine the time-series properties and determinants of the relation between aggregate earnings and returns (earnings response coefficient, ERC) employing return decompositions with longer historical data. We find that aggregate ERC is time-varying, above and beyond the evidence documented in prior literature that aggregate ERC is negative. We also find the aggregate ERC components - expected return ERC, cash flow news ERC, and discount rate news ERC - are time-varying. We reconcile the prior findings and show that both news and expectations of returns contribute to aggregate ERC and the relative importance of each varies over time. We further show that the time-varying aggregate ERC and the relative importance of aggregate ERC components are strongly associated with macroeconomic conditions and the stock market regulation environment