Linear information dynamics parameters: market-wide vs. group-wide estimation

Over the past two decades, considerable academic attention has been given to testing the relationship between accounting numbers and firm value. The Linear Information Model (LIM) has become popular for testing this relationship. Most studies find that the LIM has a negative bias relative to the stock market. Examples are Dechow et al. (1999), Myers (1999) and Gregory et al. (2005). One common feature of these studies is that they assume that all stocks have the same mean reversion of abnormal earnings. In this paper, I relax this assumption by investigating whether different stocks have different mean reversions of abnormal earnings. The results provide evidence that different stocks have different mean reversions of abnormal earnings and different valuation errors.