Abstract
ABSTRACT This research analyzes whether there is a temporal association between investor sentiment and earnings management in Brazil. Several studies have investigated the determinants of earnings management, such as factors inside or external to companies and regulatory requirements, but few have considered personal factors, such as investor sentiment in Brazil. With this investigation, it was apparent from the findings that accruals quality is affected by investor sentiment. For participants in the Brazilian capital market, this research reinforces the need for a more careful analysis of the results reported by companies, since managers, in response to investor sentiment, may manage earnings to inflate accounting profit through accruals and influence the market’s ability to price shares correctly. It is evident that accounting choices are much more than just financial decisions and are subject to investor sentiments. The effect of investor sentiment should be considered among the determinants of future earnings management. A sample of non-financial Brazilian companies that traded shares on the Brasil, Bolsa, Balcão (B3) exchange from 2010 to 2016 was used. The investor sentiment index was calculated according to the methodology of Baker and Wurgler (2007). For earnings management, the models of Kang and Sivaramakrishnan (1995), Kothari, Leone, and Wasley (2005), and Dechow, Hutton, Kim, and Sloan (2012) were used. The estimates were carried out through regressions for pooled panel data, fixed, and dynamic effects using the system generalized method of moments (GMM) estimator. Discretionary accruals are positively associated with investor sentiment in the Brazilian capital market, in a similar way to markets with greater informational efficiency and notwithstanding the code-law system. Analyzing low and high sentiment periods separately, the findings suggest that managers increase accruals after high sentiment and reduce them after low sentiment.
Highlights
Investor sentiment can be defined as a personal belief of whoever invests regarding future cash flows in risk investments that is not warranted by known facts (Baker & Wurgler, 2007)
The literature has documented different empirical evidence regarding the influence of investor sentiment on corporate finance decisions (Baker, Ruback & Wurgler, 2007; Gilchrist, Himmelberg & Huberman, 2005; Miranda, 2018; Polk & Sapienza, 2009), on the formation of overly optimistic or pessimistic accounting profit expectations on the part of analysts and investors (Bergman & Roychowdhury, 2008), and how accounting results forecasts affect the relationship between investor sentiment and stock returns (Hribar & McInnis, 2012; Mian & Sankaraguruswamy, 2012; Seybert & Yang, 2012)
According to the author, distinguishing between the effects of these components is important because the profit expectations contained in share prices do not completely reflect the persistence of higher earnings that may be attributed to the cash flow component and the persistence of lower earnings that may be attributed to the accruals component
Summary
Investor sentiment can be defined as a personal belief of whoever invests regarding future cash flows in risk investments that is not warranted by known facts (Baker & Wurgler, 2007). The literature has documented different empirical evidence regarding the influence of investor sentiment on corporate finance decisions (Baker, Ruback & Wurgler, 2007; Gilchrist, Himmelberg & Huberman, 2005; Miranda, 2018; Polk & Sapienza, 2009), on the formation of overly optimistic or pessimistic accounting profit expectations on the part of analysts and investors (Bergman & Roychowdhury, 2008), and how accounting results forecasts affect the relationship between investor sentiment and stock returns (Hribar & McInnis, 2012; Mian & Sankaraguruswamy, 2012; Seybert & Yang, 2012) This last aspect is important because it seeks to analyze whether investor sentiment influences the sensitivity of share prices to earnings forecasts made by investors and analysts, since there is evidence that earnings response coefficients (ERCs), a proxy for share price sensitivity to profit information, is greater when sentiment is high and lower when it is low, leading to the positive association between ERC and investor sentiment (Mian & Sankaraguruswamy, 2012). This behavior makes the accruals overvalued, since many studies have documented the currently positive association between stock returns and accounting profit
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