The importance of accounting information in portfolio optimization

John R.M. Hand, Jeremiah Green

Research output: Contribution to journalArticle

10 Scopus citations

Abstract

We study the economic importance of accounting information as defined by the value that a sophisticated investor can extract from publicly available financial statements when optimizing a portfolio of U.S. equities. Our approach applies the elegant new parametric portfolio policy method of Brandt, Santa-Clara, and Valkanov (2009) to three simple and firmspecific annual accounting characteristics-accruals, change in earnings, and asset growth. We find that the set of optimal portfolio weights generated by accounting characteristics yield an out-of-sample, pre-transactionscosts annual information ratio of 1.9 as compared to 1.5 for the standard price-based characteristics of firm size, book-to-market, and momentum. We also find that the delevered hedge portion of the accounting-based optimal portfolio was especially valuable during the severe bear market of 2008 because unlike many hedge funds it delivered a hedged return in 2008 of 12 percent versus only 3 percent for price-based strategies and -38 percent for the value-weighted market.

Original languageEnglish (US)
Pages (from-to)1-33
Number of pages33
JournalJournal of Accounting, Auditing and Finance
Volume26
Issue number1
DOIs
StatePublished - Jan 2011

All Science Journal Classification (ASJC) codes

  • Accounting
  • Finance
  • Economics, Econometrics and Finance (miscellaneous)

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