Price Convergence and Forecasting Returns by V/P Ratio: Evidences from TSE

Abstract

Aims: This study investigates the convergence of prices to fundamental value of stocks to deepen the insights of investors about the market mechanisms. The paper checks the value relevance of accounting and financial reporting information and addresses the usefulness of V/P ratio as a good predictor of stock returns which can be exploited by analysts. Study Design: The study design consist of the following steps: Fundamental value estimation, Calculating the V/P ratio, Classification of the sample based on Johnson and Xie Model (2004), Normal and abnormal return calculation, Factorial correlation analysis. Place and Duration of Study: The society consists of all the firms accepted in TSE from 2002 through 2010 which the sample (consist of 87 firms) has been selected by some restrictions. Methodology: This paper introduces the concept of "Convergence of prices to fundamental values" based on Johnson & Xie model (2004) and tests its predicting ability. This is an applied research utilizing correlation and regression methods to describe the variables and the relations. Results: The Findings support the prediction ability of V/P ratio with respect to long-run normal and abnormal returns. Also, the results show the return accumulation in price convergence subgroup of sample; say that the primary source of this abnormal return is the convergence of prices to fundamental values of stocks. The correlation between accounting and financial reporting information with market prices has been evident, too. Conclusion: The results support the value relevance of accounting book values for fundamental value estimations and the prediction ability of V/P ratio especially in long-run period.