INFORMATION UNCERTAINTY OF EARNINGS AND INVESTOR BEHAVIOR

Abstract

The purpose of this paper is to examine how information uncertainty on earnings affects investor behavior in Thailand during 1996-2010. Specifically, this paper use earnings persistence as a proxy for information uncertainty, while momentum profits are used as a proxy for behavior of under-reaction by investor. There are two main conclusions in this paper. First, investors are, on average, more under-react to firms that contain high degree of information uncertainty than firms that contain low degree of information uncertainty. The first conclusion is consistent with prior evidence that higher uncertainty on a group of stocks can create higher degree of psychological biases (Hirshleifer (2001)). In addition, human nature is put forward to explain the first conclusion. Investors are likely to make a decision where they know the odds and the possible outcomes, while they avoid making a decision where the odds and possible outcomes are unknown. Second conclusion is that the degree of under-reaction is higher during economic recession than economic expansion. The explanation is given in term of loss aversion. During economic recession, investors anticipate loss on investment. In general, investors are more sensitive to a loss than a gain of similar magnitude when making a decision under uncertainty environment. This can be implied that investors prefer avoiding losses to acquiring gains, creating the behavior of under-reaction during economic recession.