Financial Analysts Journal

Do We Accept Accrual Profits at Our Peril?

  1. Qiao Liu
  2. Rong Qi

The study described documented evidence that informed traders use their proprietary information on accrual quality to trade against average investors. The informed traders’ arbitrage strategy generated annualized abnormal returns adjusted by size and book-to-market value of 19.8 percent over the 1993–2002 period. The accrual profits were still significant after trading costs were subtracted. The findings suggest that (1) informed traders’ profits from accruals-based strategies derive mainly from their costly information on accrual quality and (2) the persistence of the “accrual anomaly” may be driven by nondiversifiable information risk. The study suggests a strategy for uninformed traders to overcome the information barrier by mimicking informed traders.

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