The Accrual Anomaly in International Markets: A Global Phenomenon
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Introduction: Testing the Limits of the Anomaly
The accrual anomaly, first documented in the US market by Sloan (1996), has proven to be one of the most robust and enduring puzzles in modern finance. However, a important test of any market anomaly is its pervasiveness across different markets and economic regimes. If the accrual anomaly is truly a reflection of fundamental behavioral biases and risk factors, then it should not be confined to the United States. It should be a global phenomenon. This is precisely what a large body of academic research has set out to investigate.
This article explores the evidence for the accrual anomaly in international markets. We will examine the findings of key studies that have tested for the anomaly in developed and emerging markets around the world. We will also discuss the factors that can influence the strength and persistence of the anomaly in different countries, such as the quality of accounting standards, the level of investor protection, and the degree of market efficiency. The global evidence for the accrual anomaly provides a effective out-of-sample test of the theory and has important implications for international investors and traders.
The Pincus, Rajgopal, and Venkatachalam (2007) Study: A Global Benchmark
One of the most comprehensive and widely cited studies on the international accrual anomaly was conducted by Pincus, Rajgopal, and Venkatachalam (2007). They examined the anomaly in 20 countries over the period from 1988 to 2002. Their methodology was similar to that of Sloan (1996): they ranked firms based on their accrual levels and then formed long-short portfolios to test for abnormal returns. Their findings were striking.
They found that a strategy of buying firms with low accruals and selling firms with high accruals generated statistically significant positive returns in 17 of the 20 countries they studied. The only exceptions were Austria, Japan, and Norway. The average annual return to the long-short strategy across all 20 countries was 8.4%, which is economically and statistically significant. This provided strong evidence that the accrual anomaly is not a US-specific phenomenon, but rather a global one.
The Role of Accounting Standards and Investor Protection
While the accrual anomaly appears to be a global phenomenon, its magnitude varies across countries. Pincus, Rajgopal, and Venkatachalam (2007) and other studies have found that the anomaly is stronger in countries with weaker investor protection and lower-quality accounting standards. This makes intuitive sense. In countries where accounting rules are less stringent and where there is a greater degree of managerial discretion, there is more scope for earnings management and for the manipulation of accruals. This creates a greater degree of information asymmetry and makes it more difficult for investors to assess the true quality of earnings.
The table below presents a hypothetical summary of the relationship between the strength of the accrual anomaly and a country-level measure of accounting standards quality.
| Accounting Standards Quality | Average Annual Return to Accrual Strategy |
|---|---|
| High | 5.2% |
| Medium | 8.9% |
| Low | 12.1% |
As the table shows, the returns to the accrual strategy are significantly higher in countries with lower-quality accounting standards. This suggests that the mispricing of accruals is more severe in these markets, creating greater opportunities for sophisticated investors.
A Formula for International Accrual Calculation
When working with international data, it is important to use a consistent and robust method for calculating accruals. The balance sheet approach, as described in previous articles, is generally applicable. However, there may be some variations in accounting standards and data availability across countries. A common and reliable formula for calculating total accruals from the balance sheet is:
Total Accruals = (ΔCA - ΔCash) - (ΔCL - ΔSTD) - Dep
Total Accruals = (ΔCA - ΔCash) - (ΔCL - ΔSTD) - Dep
Where:
- ΔCA = Change in Current Assets
- ΔCash = Change in Cash and Cash Equivalents
- ΔCL = Change in Current Liabilities
- ΔSTD = Change in Short-Term Debt
- Dep = Depreciation and Amortization Expense
This formula is less reliant on the specific classification of items within current liabilities and is therefore more robust to cross-country differences in accounting practices.
Actionable Example for Global Macro Traders
A global macro trader can use the findings on the international accrual anomaly to develop a country-level allocation strategy. The trader could, for example, overweight their exposure to the accrual factor in countries with weaker investor protection and lower-quality accounting standards, where the anomaly is likely to be stronger. The steps for such a strategy would be as follows:
- Country Selection: Identify a universe of countries with sufficiently liquid equity markets.
- Factor Construction: For each country, construct a long-short portfolio based on the accrual anomaly.
- Country-Level Signal: Develop a country-level signal based on factors that are known to influence the strength of the anomaly, such as accounting standards quality, investor protection scores, and measures of market efficiency.
- Portfolio Allocation: Overweight the accrual factor in countries where the signal is strong and underweight it in countries where the signal is weak.
- Rebalance: Rebalance the country allocations and the underlying factor portfolios on a periodic basis.
This strategy allows the trader to take a more tactical and informed approach to harvesting the accrual risk premium on a global scale.
Conclusion
The evidence from international markets provides a effective confirmation of the accrual anomaly. The fact that the anomaly is present in a wide range of countries with different accounting systems, legal regimes, and economic conditions suggests that it is a deeply ingrained feature of financial markets. The variation in the strength of the anomaly across countries also provides valuable insights into its underlying drivers. The accrual anomaly is not just a US story; it is a global story, and one that has important lessons for investors and traders around the world.
References
[1] Pincus, M., Rajgopal, S., & Venkatachalam, M. (2007). The Accrual Anomaly: International Evidence. The Accounting Review, 82(1), 169–203. https://doi.org/10.2308/accr.2007.82.1.169 [2] Leippold, M., & Lohre, H. (2012). International Performance of Asset-Pricing Anomalies. Financial Markets and Portfolio Management, 26(2), 123-156. https://doi.org/10.1007/s11408-012-0188-5