Macro to Micro: Country exposures, firm fundamentals and

stock returns

Ningzhong Li
University of Texas at Dallas
ningzhong.li@utdallas.edu

Scott Richardson
London Business School
srichardson@london.edu

İrem Tuna
London Business School
ituna@london.edu

September 25, 2012

Abstract

We outline a systematic approach to incorporate macroeconomic information into

firm level forecasting from the perspective of an equity investor. Using a global
sample of 381,030 firm-years over the 1998-2010 time period, we find that combining
firm level exposures to countries (via geographic segment data) with forecasts of
country level performance, is able to generate superior out of sample forecasts for
firm fundamentals. We further find that this forecasting benefit is not incorporated
into sell side analyst earnings and sales forecasts in a timely manner. Finally, we
provide evidence that country exposures are able to improve explanatory power of
characteristic regressions of equity returns and this return predictability does not
appear to be explained by standard risk factors. These relations are stronger for non-
US firms, and are attributable to both home country and foreign country exposures.

JEL classification: G12; G14; M41

Key words: macroeconomic exposures, earnings, stock returns, geographic segments.

We are grateful to Eli Amir, Mary Barth, Victor DeMiguel, George Foster, Francisco Gomes, Jeff
Hales, Trevor Harris, Chris Higson, Andrew Jackson, Peter Joos, Rabih Moussawi, Paul Pacter,
Stephen Penman, Peter Pope, Tjomme Rusticus, Lakshmanan Shivakumar, Florin Vasvari, Franco
Wong, an anonymous referee and seminar participants at American Century Investments, University of
California, Berkeley, Columbia University, INSEAD Business School, London Business School,
London School of Economics, Manchester Business School, Rotterdam School of Management, and
Stanford University for helpful discussion and comments. Any errors are our own.

Electronic copy available at: http://ssrn.com/abstract=2017091

1. Introduction

In this paper we examine whether information about a company’s geographic

(macroeconomic) exposure is useful for forecasting firm fundamentals and stock returns. While

the link between firm operating and investing decisions and broader macroeconomic features

seems relevant for forecasting, surprisingly little archival, empirical research has examined these

relations. Indeed, with an increasingly inter-connected system of economic and financial

markets across developed and developing countries, understanding the macroeconomic

landscape is important.

The rapid change in the relative economic importance of countries around the world

suggests that attention to a given company’s geographic exposure should be useful to an investor

seeking to forecast future cash flows and associated risks for the purpose of security valuation.

The potential usefulness of macroeconomic information from the perspective of security analysis

and valuation is the open empirical question that we explore.

The set of potential macroeconomic variables to consider is large. We consider how each

company is exposed to its home country and other countries. This is a natural choice given that

operating and investing choices that span across countries is likely to be a primary mechanism by

which macroeconomic factors affect firm performance. If all firms operated in the same country,

then dispersion in macroeconomic factors across countries would not be relevant. We identify

country exposures via the geographic segment disclosures included in annual reports. Second,

we rely on information external to the firm via country level forecasts. We use (i) forecasts of

real GDP growth from Consensus Economics (CE), and (ii) country level stock returns from the

MSCI indices as measures of expected country level performance.

Electronic copy available at: http://ssrn.com/abstract=2017091

 Country exposures may not be useful in improving forecasts of firm fundamentals for

several reasons. Given our primary measure of country exposures is geographic segment data,

there is likely to be measurement error due to the subjective manner in which countries are

disaggregated across companies and also due to the country exposures being primarily driven by

sales data (a data limitation with geographic segment reporting). The cost exposures across

countries are missing from our measure, thereby limiting our ability to capture the full set of

fundamental exposure. 1 Second, there is a compound forecasting challenge in our empirical

exercise. We not only have to measure company to country exposures well, but we must also

have a meaningful forecast of relative performance across those countries. While we use

forecasts from CE and country level stock returns as our measures of expected country level

performance, we note that any errors in these forecasts will feed directly into our forecasts of

firm fundamentals.

Country exposures may not be useful to improve forecasts of sell-side analysts or stock

returns for reasons in addition to the measurement error and compounded forecasting challenge

described above. Specifically, analysts are likely to use macroeconomic information in their

earnings forecasts, target prices and stock recommendations. Likewise, stock prices are likely to

efficiently incorporate this information on a timely basis. However, the extent of geographic

exposures for large multi-national companies and the challenges in systematically incorporating

this information into firm specific forecasts, suggest it is an open empirical question as to

1
Collins (1976), Silhan (1983) and Roberts (1989) find that the incremental contribution of earnings relative to sales
data at the segment level was quite small in terms of improving earnings forecasts, suggesting that revenues is most
important for forecasting. In part, the similarity in predictive power from using either sales or earnings based
geographic exposures, may be attributable to the subjectivity in cost allocation and transfer pricing for large multi-
national companies.

Electronic copy available at: http://ssrn.com/abstract=2017091

whether country exposures and country forecasts are useful to improve forecasts of sell-side

analysts or directly forecast stock returns.

For a sample of 381,030 firm-years for US and non-US firms over the 1998-2010 time

period, we find that combining country exposures with country level forecasts improves

forecasts of firm fundamentals. Given our exposures are sales based, we assess forecasts of

ROA (income to average assets) as well as SOA (sales to average assets). The predictive power

is evident in annual cross-sectional regressions which suggest that a one percentage point

increase in real GDP growth or recent country level returns translates to an additional 10 to 20

(10 to 30) basis points of ROA (SOA) over the next year. Further, we show that out-of-sample

forecast accuracy improves when we incorporate information on country exposures. We also

find that sell-side analyst earnings and sales forecasts appear to be slow to incorporate this

information. Specifically, we find that analyst earnings and sales revisions are associated with

information contained in current country exposures and country level forecasts for the next 3

months.

We also show evidence that stock returns appear to incorporate the information in

country exposures with a lag. This is supported in cross-sectional regressions of equity returns

where the country exposures combined with country level forecasts are able to explain cross-

sectional variation in equity returns for the next 3 months, after controlling for known

determinants of equity returns (e.g., momentum, size, beta, accruals, earnings-to-price, and book-

to-price). Further, time series tests based on portfolios formed using country exposures and

country level forecasts achieve statistically significant Sharpe ratios that are not explained by

standard risk factors. We note that the economic significance of the stock return predictability

across size portfolios is quite strong: a long/short portfolio exploiting current country exposures

3
and country level forecasts generates 85 to 87 (136 to 172) basis points per month for the largest

(smallest) quintile of firms. This return relation is robust across various groups of firms based on

partitions of firm size and analyst following.

Our sample includes ‘domestic’ firms with exposure only to their home country, and

‘non-domestic’ firms that have exposures to multiple countries. For both groups of firms it is

relevant to jointly consider the usefulness of country exposures and country level forecasts to

improve forecasts of firm fundamentals. Including both ‘domestic’ and ‘non-domestic’ firms

together increases the power of our fundamental forecasts, as we do not expect the information

content of country exposures and country level forecasts to be different across ‘domestic’ and

‘non-domestic’ firms in terms of forecasting firm profitability. However, for our empirical

analysis exploring the speed with which information about country exposures and country level

forecasts is incorporated into analyst revisions and stock returns, we examine these groups

separately as there are valid reasons to expect differential speed of price discovery for ‘domestic’

firms relative to ‘non-domestic’ firms such as size, liquidity and complexity.

We find that macroeconomic information is useful for both purely ‘domestic’ firms as

well as ‘non-domestic’ firms. Our purely ‘domestic’ firms are smaller and less liquid, so finding

stronger relations between macroeconomic information and future analyst revisions and future

stock returns may not be too surprising. However, for a reduced sample of ‘non-domestic’ firms

that have either (i) a meaningful fraction of foreign sales (i.e., greater than 20 percent), or (ii) a

greater number of geographic segments (i.e., greater than three), we find strong evidence of a

lagged relation between macroeconomic information and future analyst revisions and future

stock returns. While these sub-samples comprise only 23% and 11% respectively of the full

sample, they represent 43% and 34% respectively of aggregate market capitalization. These

4
reduced samples contain the largest and most economically important firms. For these sub-

samples, the information content of country level exposures comes from either the home country

exposure and/or the set of foreign country exposures. We find that home country and foreign

country exposures are useful in predicting future analyst revisions and future stock returns.

In additional analyses, we find that the return predictability of information contained in

current country exposures and country level forecasts differs across multiple measures of

‘saliency’ (see e.g., Hong and Stein, 1999 and Hirshleifer and Teoh, 2003). For example, we

find that price discovery is faster for securities included in the MSCI country indices. This is

consistent with market segmentation where investors trading on the basis of macroeconomic

information are likely to trade baskets of securities (e.g., MSCI country indices) which have

greater sensitivity to that macroeconomic information. This result of faster price discovery for

MSCI constituents is found for both ‘domestic’ and ‘non-domestic’ firms. We also find that the

speed of price discovery for macroeconomic information is slower for more ‘complicated’ firms,

using the number of reported geographic segments as a proxy for geographic complexity.

Finally, we show that the return predictability of information contained in current country

exposures and country level forecasts is greater after periods of increased dispersion in real GDP

growth forecasts across countries. Collectively, these results are consistent with theories of

limited attention and limited arbitrage where investors are slow to incorporate new value relevant

information into their beliefs.

The primary contribution of this paper is to introduce a simple framework to identify and

exploit linkages between firm performance and potential macroeconomic drivers of that

performance. Our approach is similar in spirit to recent research exploiting economic linkages

across firms. Examples include: (i) Cohen and Frazzini (2008) who show that incorporating

5
information about linkages between firms along the supply chain improves forecasts of firm

fundamentals and stock returns, (ii) Menzly and Ozbas (2010) who show that incorporating

information about linkages across industries, using data from the Bureau of Economic analysis,

improves forecasts of firm and industry level fundamentals and stock returns, and (iii) Cohen and

Lou (2012) who show that decomposing multi-segment firms into separate ‘pure plays’

facilitates improved forecasts of fundamentals and stock returns.

The rest of the paper is structured as follows. Section 2 lays out a framework for linking

country exposures to forecasts of country performance and describes our economic hypotheses.

Section 3 describes our measures of country exposures and country forecasts that are used in our

empirical tests. Section 4 presents our empirical analysis and section 5 concludes.

2. A framework for incorporating macroeconomic information to firm level forecasting

2.1 Linking macroeconomic (country) exposures to firm level profitability

A large literature in accounting and finance has explored the determinants of firm

profitability. Some classic papers include Penman (1991) and Fama and French (2000) where

the focus is on documenting a strong mean reversion in profitability. Such mean reversion is not

unexpected as competitive forces will erode firms with above ‘normal’ profitability and the

discipline of the market will remove firms with below ‘normal’ profitability. A vast literature

has expanded the set of determinants of firm profitability to exploit: (i) accruals vs. cash flows

(Sloan, 1996 and Xie, 2001), (ii) margins vs. turnover (Fairfield, Whisenant and Yohn, 2001 and

Soliman 2008), (iii) earnings volatility (e.g., Dichev and Tang, 2009), (iv) domestic vs. foreign

earnings (e.g., Thomas, 2000), and (v) the impact of accounting distortions attributable to

conservative accounting practices (e.g., Penman and Zhang 2002).

6
 A common feature of the majority of past research is that it does not explicitly

incorporate information external to the firm itself. While it is possible that disaggregating

earnings into components will identify, in a reduced form, links to such external drivers of firm

profitability, they are not explicit with respect to these external drivers. Our focus is on first

principles to identify potential factors outside the firm’s direct control that will have an impact

on profitability. As noted in the introduction, this is potentially a very large set of variables.

Examples could include: (i) currency movements, (ii) commodity movements, and (iii) financial

market variables such as aggregate credit spreads and sovereign yield curves.

Rather than attempt to construct a general equilibrium model linking a set of primitive

macroeconomic variables to firm profitability, we have deliberately reduced the focus of our

empirical analysis to macroeconomic exposures that are both intuitive and measurable by the

researcher. We recognize that firms operating across countries are exposed to cross-country

differences in a variety of factors (including, but not limited to, those mentioned above) that will,

in part, determine their profitability. Not all firms share the same set of exposures across

countries at a point in time and not all firms keep their cross country exposures constant through

time. For example, Burberry Group PLC specializes in the design, manufacture and distribution

of apparel and accessories via retail and wholesale channels. As of December 31, 2011,

Burberry has market capitalization of 5.2 billion pounds and total revenues of 1.5 billion pounds.

Burberry’s revenue is sourced from around the world as follows: (i) Europe 33.8 percent, (ii)

Asia Pacific 30.4 percent, (iii) Americas 25.7 percent, and (iv) other 10.0 percent. In contrast,

Mulberry Group PLC designs, manufactures and retails fashion accessories and clothing. It

operates a retail and design division and as of December 31, 2011, Mulberry has market

capitalization of 0.9 billion pounds and total revenues of 121 million pounds. Mulberry’s

7
revenue is sourced from around the world as follows: (i) Europe 81.5 percent, (ii) Asia 12.7

percent, (iii) North America 4.3 percent, and (iv) other 1.5 percent. Clearly, the geographic

footprint of these two luxury good specialists is different and this difference in geographic

exposures is likely to be a key determinant of the difference in profitability into 2012 and beyond

conditional on there being a difference in consumer demand across these geographies.

Our empirical strategy is to identify for each firm the geographical source of its revenues.

In section 3.1, we describe in detail the source of the geographic segment data we use for this

purpose, along with the data choices necessary to make these disclosures cross-sectionally

comparable.

2.2 Prior research linking macroeconomic (country) exposures to firm level profitability

Prior accounting literature has explored the potential forecasting benefit of industry (line

of business) segment disclosure information. Pacter (1993) categorizes this literature into papers

that explore the effect of industry segment data on (i) investor assessments of expected returns,

and (ii) investor assessments of risk and cost of capital. There are several older papers

examining the usefulness of line-of-business segment data to improve forecasts of earnings at the

parent company level. These studies typically use very small samples from the early 1970s when

the SEC first introduced segment disclosure requirements (e.g., Collins, 1975; Collins, 1976;

Kinney, 1971; and Foster, 1975). In addition, there are more recent papers examining the

usefulness of geographic segment disclosures to improve forecasts of earnings at the parent

company level (e.g., Balakrishnan, Harris and Sen, 1990; and Roberts, 1989). Again, these

papers use very small samples (e.g., 89 firms for Balakrishnan, Harris and Sen, 1990; and 78

firms for Roberts, 1989) making generalizability difficult. Furthermore, prior research finds

mixed evidence that segment data at the line-of-business or geographic level improves out-of-

8
sample forecasts of firm profitability. With the exception of Collins (1976), none of these papers

examine the speed with which this information is incorporated into security prices or capital

market participant investment decisions (e.g., analyst forecasts).

In the more recent literature in financial economics, there are several streams of related

papers. However, none of them directly subsume our analysis. Thomas (2000) shows that

decomposing earnings changes into a domestic and foreign component generates superior

forecasts of future earnings growth and that the stock market fails to appreciate this in a timely

manner. However, this approach does not make any use of information external to the firm.

Thomas (2000) uses realizations of domestic and foreign earnings growth without any attempt to

forecast the domestic economy relative to foreign economies nor to decompose the foreign

exposure into its country level composition. In unreported analyses we have separated current

profitability into its domestic and foreign components and this separation takes nothing away

from our primary variable (results available upon request).

A variety of more recent papers have measured firm sensitivities to macroeconomic

factors including (i) inflation expectations (e.g., Chordia and Shivakumar, 2005; Basu, Markov

and Shivakumar 2010; and Konchitchki, 2011), (ii) foreign currencies (e.g., Bartov and Bodnar,

1994; and Bartram and Bodnar, 2012), and (iii) general macroeconomic state variables (e.g.,

Cochrane 2000; Cochrane, 2010; Liew and Vassalou, 2000; Vassalou, 2003; and Li, Vassalou

and Xing, 2006). A common limitation to all of this prior research is that the sensitivities are

generally estimated statistically and they do not make any attempt to incorporate forecasts of the

respective macroeconomic variables. Our empirical analysis differs from these papers in several

key respects. First, we estimate our exposures using ‘priors’, as opposed to statistical estimation

which is known to be an imprecise estimate of latent sensitivities (see e.g., Scholes and Williams,

9
1977, and Dimson, 1979 for a discussion of estimation errors for ‘beta’). Second, we exploit the

full set of country exposures provided in the geographical segment disclosures and do not limit

our analysis to a comparison of ‘foreign’ to ‘domestic’ effects. Third, and perhaps most

importantly, we utilize forecasts of the expected performance of each country that a given

company is exposed to. We are thus able to answer the question whether knowledge of macro-

economic exposures is helpful in a predictive rather than purely descriptive sense.

In summary, it is therefore an open empirical question as to whether there is information

content in the combination of country exposures and forecasts of country level performance for

(i) forecasting firm profitability, and (ii) testing whether this information is reflected in analyst

forecasts and stock prices in a timely manner.

2.3 Combining country exposures to form a firm level forecast

We use forecasts of real GDP growth from Consensus Economics (CE) and country level

stock returns from MSCI as our measures of expected country level performance. Here we

describe how we combine the company level geographic segment data with these country level

forecasts.

For each firm-year observation we disaggregate total sales into country level sales based

on the geographic segment data in the most recent annual report. We retain companies with a

purely domestic footprint (i.e., those companies with zero foreign sales) because our empirical

analysis is based on a global set of firms and retaining domestic firms allows us to more cleanly

assess the importance of macro-economic information. For example, if firm A has 50 percent of

its sales in Germany and 50 percent of its sales in Greece and Firm B has 100 percent of its sales

in Greece, and Greece is expected to outperform Germany, then holding all else equal, the ‘best’

portfolio exposure to express that view would be via Firm B, the purely domestic firm. As

10
discussed in the introduction, grouping ‘domestic’ and non-domestic’ firms together will

increase the power of our tests forecasting future profitability. However, for our empirical

analysis using analyst forecast revisions and stock returns we expect differences across these two

groups of firms due to differences in firm size, liquidity and complexity. Hence we examine

‘domestic’ and ‘non-domestic’ firms separately for those analyses.

After gathering the sales data for firm i, for each country c, at each point in time t,

,, , we standardize these sales measures so that they sum to one. We then use our

forecasts of expected country level performance for each county c at each point in time t,

[  ] , . To generate a company specific fundamental forecast we take the sum-

product of
,, with

[  ] , at each point in time. This results in a measure of

expected fundamental performance attributable to changes in macroeconomic conditions which

we label , . This measure captures both cross sectional and time series variation in firm

level sensitivities to macroeconomic (country level) performance drivers. A detailed example of

how we compute , for Mulberry’s Group PLC is contained in Appendix I.

2.4 Our empirical tests

We conduct three sets of empirical analyses. First, we assess the relative (out-of-sample)

performance of forecasts of firm fundamentals (income on average assets and sale on average

assets) that include , . Second, we assess the ability of , to forecast sell-side

analysts’ earnings and sale forecast revisions. To the extent that our measure is able to forecast

analyst revisions, it is consistent with analysts failing to incorporate this information in a timely

manner. A benefit of the analyst revision tests is that it can allow us to attribute any stock return

relation to mispricing rather than risk (e.g., Bradshaw, Richardson and Sloan, 2001). Third, we

assess the ability of , to predict excess stock returns.

11
2.4.1 Firm fundamentals

Our first empirical prediction can be stated in alternative form as:

P1: Combining country level exposures with expectations of country level performance is useful
to forecast future firm profitability.

We test this by examining whether the inclusion of  or  improves

forecasts of firm profitability. The benchmark forecasting model for firm level profitability is a

modified random walk that acknowledges profitability is mean reverting, and also exploits

various firm characteristics that isolate differences in persistence of profitability (see e.g., Core,

Guay and Rusticus, 2006; Fama and French, 1995; So, 2012; and Hou, van Dijk and Zhang,

2012). Specifically, we run the following regression for each quarter (firm subscripts, i, dropped

for the sake of brevity):

 (
 ) = # + %  + %&  (
 ) + %( )* + %+
,- + %. /0 +

%1 /_3 + %4 /_/,5 + %6 /,5_7,8 +  (1)

Equation (1) is estimated using two measures of profitability: return on assets (ROA) and

sales on assets (SOA). Income is more important for security valuation; however our country

exposures are based on sales data so we also examine sales based measures of fundamentals.

 (
 ) is return on assets (sales) computed as income before extraordinary items

(sales) divided by average total assets,  is as defined previously,  (
 ) is return

(sales) on assets for the previous twelve months, )* is book-to-price measured as the book

value of common equity divided by market capitalization using data available at the start of the

period for which we examine future profitability,
,- is the log of market capitalization (in

USD to ensure cross-sectional comparability), /0 is the change in net operating assets as

measured in Richardson, Sloan, Soliman and Tuna (2005), /_3 is an indicator variable equal

12
to one for firms reporting a loss in year t, and zero otherwise, /_/,5 is an indicator variable

equal to one for firms paying a dividend in year t, and zero otherwise, and /,5_7,8 is the

dividend yield for year t. We estimate this regression each year for the 12 sector groupings

identified in Fama and French (1997). This ensures that we have sufficient sample size for each

sector-year group. Standard errors are computed using the time series of the sector-year

regression coefficients with a correction for serial correlation. Inferences are unchanged if we

instead run pooled regressions with standard errors clustered for industry (or firm) and year. We

expect profitability to be mean reverting so our priors are for %& to be less than one and greater

than zero. We expect firms with greater growth opportunities, as measured (inversely) by )* ,

to have high levels of profitability after controlling for current profitability, so we expect a

negative %( coefficient. As originally noted in Fama and French (1995), we expect smaller firms

to exhibit lower levels of future profitability controlling for current profitability, so we expect a

positive %+ coefficient. We expect %. to be negative due to the lower persistence of accruals.

We expect loss making firms to have lower profitability (i.e., %1 < 0 ) and firms paying

dividends to have higher profitability (i.e., %4 > 0 and %6 > 0). Finally, we expect a positive

coefficient for our primary variable of interest,  . The greater the exposure of a firm to

countries that are expected to do well, the greater we expect future profitability to be, controlling

for other known determinants of profitability. Figure 1 illustrates the timing of our variable

measurement for the estimation of equation (1). For simplicity we discuss a December year-end

firm, but the timing convention carries over to all fiscal year ends.

In addition to the descriptive analysis of firm profitability from estimating equation (1),

we also evaluate the out-of-sample improvement in forecasts of firm profitability. We do this by

estimating equation (1) for each sector grouping every year using an expanding window. This

13
provides a set of sector-year coefficients which are then combined with the current realizations

of the explanatory variables to generate a forecast of future profitability,

<= >?@ [ ].

To assess the out-of-sample importance of our primary variable of interest,  , we

estimate a second forecast of firm level profitability that excludes that variable,

<=AB >?@ [ ]. We then compare the relative accuracy of these two forecasts with the

actual future profitability,  . The resulting errors are defined as follows:

<= >?@ = C
<= >?@ [ ] −  C (2a)

<=AB >?@ = C
<=AB >?@ [ ] −  C (2b)

We test the differences of these error distributions to assess the out-of-sample predictive

accuracy of our primary variable,  .

2.4.2 Sell-side analyst earnings forecasts

Our second empirical prediction can be stated in alternative form as:

P2: Sell-side analysts do not efficiently incorporate information about country level exposures
and expectations of country level performance into their earnings (and sales) forecasts.

Prior literature has shown that analyst forecasts appear to be slow in incorporating a

variety of information (e.g., Hughes, Liu and Su, 2008 for past stock returns; Bradshaw,

Richardson and Sloan, 2001 and 2006 for measures of accruals and external financing; So, 2012

for a variety of other measures). In contrast, Kadan, Maduereira, Wang and Zach (2012) note

that sell-side analysts are respected for their industry, sector and general market knowledge.

Indeed, analysts are rated most highly on this industry and market knowledge in surveys. Thus,

it is an open empirical question as to whether sell-side analysts incorporate information about

14
country level exposures and expectations of country level performance into their earnings (and

sales) forecasts.

We test P2 directly by examining the speed with which analysts incorporate the

information contained in E into their firm level earnings and sales forecasts. Specifically,

we estimate the following regressions every month (again firm subscripts, i, dropped for the sake

of brevity):

5,,F = # + %  + %& 5,, +

%( )* + %+ 0G/ + %. IJ + %1 /0 + %4 /_3 + F (3)

Equation (3) is estimated for the next three months (i.e., k = 1 to 3). As with our

fundamental forecasts discussed in section 2.4.1, we track analysts’ revisions of earnings and

sales forecasts. 5,,F is the monthly revision in consensus sell-side analyst forecasts. To

ensure cross-sectional comparability of sell-side analyst earnings and sales forecasts across firms

with different fiscal year ends, we first take a calendar weighted average of one year ahead,

[

1, ] , and two-year ahead earnings and sales forecasts,
[

2, ], where the weight is a

linear function of the number of months to the end of the next fiscal year, M. We label the

resulting twelve month ahead forecast:

[

12, ]. For example, in March 2010 for a

December year end firm we place 9/12 weight on the forecast for the 2010 fiscal year and 3/12

weight on the forecast for the 2011 fiscal year. The consequence of this choice is that our

resulting earnings or sales forecast is twelve months ahead for all firms. Finally, we compute

5,,F as:

[O&P,QRS ]
5,,,F = ln [O& (4)
P,QRSTU ]

15
 Given that we use the natural logarithm operator we restrict our firms to those where the

calendar weighted forecasts across both months are strictly positive.2 Prior literature has shown

that analyst forecast revisions are highly serially correlated (e.g., Hughes, Liu and Su, 2008).

We therefore expect %& to be positive. )* is as defined previously. 0G/ is the ratio of net

income before extraordinary items to market capitalization at the start of the month. We expect

both %( and %+ to be negative, as firms with high expectations of earnings growth should, on

average, deliver that earnings growth (and changing expectations of growth). IJ is

the recent six month stock return. We include this variable as prior research has shown that sell

side analyst forecasts reflect expectations embedded in stock price with a lag (e.g., Hughes, Liu

and Su, 2008). Consistent with prior research, we expect %. to be positive. We also expect %1 to

be negative as sell-side analysts fail to incorporate the lower persistence of accruals into their

forecasts (e.g., Bradshaw, Richardson and Sloan, 2001). Finally, we expect % to be positive if

analysts are slow to incorporate information about company level geographic exposures and

country level performance into their firm level earnings forecasts.

It is important to note the risk of ‘throwing the baby out with the bath water’ in equation

(3). We have included market price via three variables, )* , 0G/ , and IJ . To

the extent that stock prices have efficiently incorporated all information, then any predictive

content of other information will be reduced. Figure 2 illustrates the timing of our variable

measurement for the estimation of equation (3).

We also make additional empirical predictions for our analyst revision tests as follows:

2
In unreported results we have measured 5,,F using firms with positive and negative twelve month ahead
VO&P,QRS WXVO&P,QRSTU W
earnings forecasts as follows: 5,,,F = . Our inferences are unchanged with
(CO&P,QRS CCO&P,QRSTU C)/&
this alternative measure.

16
P3a: P2 is expected to vary based on the natural variation in expectations of country level
performance.
P3b: P2 is expected to vary based on differences in saliency of macroeconomic information.

P3a is motivated on the basis that the information content of macroeconomic information

is naturally greater when then there is greater dispersion in expected performance across

countries. We test whether analysts appreciate this greater information content by examining

whether the lagged association between analyst revisions and MACRO is greater after periods of

increased dispersion in expected performance across countries. P3b is motivated on the basis

that limited attention can impede individuals ability to incorporate information for (i) smaller

firms, (ii) less followed firms, and (iii) more complicated firms.

2.4.3 Stock returns

Our empirical prediction can be stated in alternative form as:

P4: Stock prices do not efficiently incorporate information about country level exposures and
expectations of country level performance.

We employ standard cross-sectional characteristic regressions and time series portfolio

tests to assess the relation, if any, between future stock returns and the information contained in

company level geographic exposures and country level performance.

For our cross sectional characteristic tests, we run the following regression every month

(again firm subscripts, i, dropped for the sake of brevity):


*F = # + %  + %& )* + %( 0G/ + %+ )I + %.
,- + %1 
* +

+ %4 IJ +%6 /0 + %Y /_3 + F (5)

Equation (5) is estimated for the next three months (i.e., k = 1 to 3). To simplify the

interpretation of the results, we examine each month separately (i.e., the stock returns, 
*F ,

are not cumulated across K months, but instead focus on the Kth month). The relevant test is

17
whether % = 0 , and finding % > 0 is consistent with stock returns failing to efficiently

incorporate company level geographic exposures and country level performance. Of course, this

inference is conditional on our ability to control for known risk attributes in the cross sectional

regression model. Building on Fama and French (1992 and 2008) we include firm characteristics

known to be associated with future returns: 0G/ and )* . We expect both to be positively

associated with future returns. )* is as defined previously. 0G/ is computed as net income

before extraordinary items divided by market capitalization as at the end of the most recent fiscal

period. We also include measures of firm size,
,- , as defined in Section 2.4.1, and )I ,

measured as the single factor CAPM beta, using monthly data from the last 60 months for each

security (minimum of 24 months required); we expect %+ and %. to be positive. We also include

two measures of recent stock returns. First is I , which is the return for the most recent month.

Given prior research has documented a short term reversal effect (e.g., Jegadeesh, 1990) we

expect %1 to be negative. Second is IJ , as defined in section 2.4.2. As prior research

has shown a continuation in stock returns over the medium term, we expect the coefficient on

IJ , %4 to be positive. We include an aggregate measure of accruals, /0 , which

previous research has shown to be strongly negatively associated with future returns. We also

include an indicator for loss making firms, /_3 , but note that prior research has found mixed

results with this variable (e.g., positive in Fama and French, 1992 and marginally negative in

Fama and French, 2008).

We estimate equation (5) twice for each cross-section and then report test statistics using

the time series variation in the regression coefficients. First, we report value weighted cross

sectional regressions. This weighting approach allows us to assess the strength of any cross

sectional relation across firm size. If the return result is attributable to smaller (and potentially

18
less liquid and riskier) securities, value weighting will reflect this. Second, we report ‘risk’

weighted cross-sectional regressions. This weighting scheme is theoretically motivated by

optimally combining forecasts of expected return and expected risk (see e.g., French, Schwert

and Stambaugh, 1987; Lang, Stulz and Walkling, 1991; and Pontiff, 2006). Indeed, much

current research emphasizes the importance of constructing portfolios where the portfolio

weights are inversely related to measures of volatility (e.g., Maillard, Roncalli, and Teiletche,

2010; and Kirby and Ostdiek, 2012). Therefore, for our equity security portfolios, ignoring any

correlation structure across common factors, portfolio weights should be inversely proportional

to idiosyncratic risk. We measure idiosyncratic risk as the standard deviation of historical

residual monthly returns (using a single market factor model over the last 24 months). An added

benefit of this alternative weighting scheme is that it will (i) help correct for microstructure

issues in returns because volatility is positively associated with the likelihood of bid-ask bounce

(e.g., Blume and Stambaugh, 1983 and Asparouhova et al., 2010), and (ii) help correct for

expected transaction costs because volatility is positively associated with expected trading costs

(see e.g., Korajczyk and Sadka, 2004; and Richardson, Tuna and Wysocki, 2010, p 444, for a

related discussion).

For our portfolio level analyses we conduct two sets of tests. First, following the

suggestion of Fama and French (2008) and Lewellen (2010), we sort each cross-section into five

quintiles based on market capitalization, . We then sort firms within each  based on

 . This allows us to quantify the relation between  and future returns holding

firm size constant. This analysis helps us make inferences about economic significance. If a

return result is only evident in the smallest securities, then the economic significance of the

relation is weak. Second, we perform time series regressions where the zero-cost hedge portfolio

19
return, Z
/[
, (a portfolio that is long (short) the securities in the top (bottom) quintile of

 ) is projected onto a set of changes in macro-economic state variables (e.g., Chen, Roll

and Ross, 1986) and standard factor-mimicking portfolio returns (e.g., Fama and French, 1992

and 1993). Using the time series of monthly Z

/[
portfolio returns, we estimate the

following regression:

Z
/[
 = # + % \* + %&
) +%( Z3 +%+  + %. 8 + %1 8*
 + %4 8G + (6)

), Z3, and  are the factor-mimicking portfolio returns from Ken French’s

website. As our empirical analyses uses a global set of securities we use the global factor returns

based on stock level data from 23 developed markets that correspond closely to our sample

composition. \* is the excess return to the global market portfolio. 8 is the change in

corporate risk premium, measured as the change in the default spread (the difference between the

Moody’s Seasoned BAA Corporate Bond Yield and the 10 year US Treasury constant maturity

rate). 8*
is the change in term structure, measured as the change in the difference between the

10 year US Treasury constant maturity rate and the 2 year US Treasury constant maturity rate.

8G is the percentage change in Industrial Production for the month. To the extent that factor-

mimicking portfolio returns and the changes in our selected macro-economic state variables

reflect compensation for changes in risk profile, we control for time series variation in risk in our

analysis by including these variables. The relevant test is then whether the intercept in this time

series regression is statistically different from zero.

Similar to our analyst revision empirical predictions, we also make additional predictions

for our stock return tests as follows:

P5a: P4 is expected to vary based on the natural variation in expectations of country level
performance.

20
 P5b: P4 is expected to vary based on differences in saliency of macroeconomic
information.

The motivation for these additional predictions is the same as that for P3a and P3b.

3. Data Issues and Sample Selection

3.1 Geographic exposure data

We extract geographic exposure data from the annual fundamental file created by

Compustat for US firms, and the annual fundamental file created by FactSet Fundamentals for

non-US firms. We capture the geographic exposure data from annual reports for firms with

positive sales. We use the geographic sales data because the coverage of geographic earnings

data is very limited. SFAS 131 ‘Disclosures about segments of an enterprise and related

information’ is the relevant standard in effect for US firms for our sample period. This standard

requires companies to disclose detailed segment data using segment definitions based on a

‘management approach’. This means that the identification of operating segments for the

purpose of external financial reports needs to be consistent with the segment basis used by the

firm’s key operating decision makers. While this creates considerable flexibility in the

identification of operating segments across firms (i.e., some firms may elect to identify operating

segments on a product basis or an industry basis, while others may adopt a geographic basis),

there is still a clear geographic disclosure requirement for US firms. Paragraph 38a of SFAS 131

states that if a company is not reporting geographic segments, it is required to provide

information on revenues from external customers in foreign countries as well as domestic

customers, and assets located in the country of domicile and those in foreign countries as a part

of its enterprise-wide disclosures, unless it is impractical to do so. If revenues attributable to and

assets located in a single foreign country are material, then they need to be reported separately.

21
 For non-US firms that followed international accounting standards, the relevant

accounting standard for the period 1998 to 2008 was IAS14. IAS14 required firms to make

separate disclosures for geographic segments. A geographic segment is based on either where

the enterprise’s assets or customers are located (paragraph 13). Materiality thresholds determine

the identification of a unique segment (typically 10 percent of the enterprise value). Unique

geographies are identified until a 75 percent total threshold is met (paragraph 37), and the

smaller segments are typically aggregated together (paragraph 36). Paragraphs 51 to 67 outline

in considerable detail the required disclosures for each geographic segment. For fiscal years

ending after 2009, IFRS8 is in effect for firms following international standards (it replaced

IAS14 effective January 1, 2009). IFRS8 is virtually identical to FAS131 in its segment

disclosure requirements. Thus, for the majority of our sample period (1998 to 2009), it appears

that the requirement for geographic disclosures for US firms is less detailed than that for non-US

firms that were following the international accounting standards. This suggests that there will be

greater measurement error in the identification of geographic exposures for US firms relative to

this group of non-US firms. In later analysis we find that the predictive content of geographic

exposures is greater for non-US firms.

Our final sample covers 381,030 unique firm-years, spanning 56 countries over the 1998

to 2010 period. Panel A of Table 1 provides a breakdown of the country headquarters for the

firms included in our sample. US firms make up 21 percent of our sample. The next most

important countries are Japan (13.6 percent), UK (6.6 percent), China (6.3 percent), and India

(4.7 percent). The average firm in our sample reports $862 million in annual sales, $1.89 billion

in total assets and has a market capitalization of $0.9 billion. In contrast, the median firm in our

sample has $93 million in annual sales, $146 million in total assets and has a market

22
capitalization of $87 million. All of these amounts are expressed in USD. We have translated

balance sheet (income statement) amounts reported in local currency to USD using fiscal year

end (average) foreign exchange spot rates. Our sample contains some of the largest multi-

national companies in the world, but also contains a large number of the smaller firms. The

average (median) firm in our sample has a )* value of 1.08 (0.75) and reports virtually zero

profitability. 49.5 (28.4) percent of sample firms pay dividends (report losses). The sample

covers the main economic sectors with the greatest concentration in money and finance (19.0

percent), business equipment (15.1 percent) and manufacturing (13.1 percent).

We keep firm-years which do not have any foreign sales (i.e., ‘domestic’ firms). As

reported in panel B of Table 1, our primary sample contains about 75 percent purely domestic

firms. We retain these firm-year observations in our primary sample as our aim is to assess the

forecasting relevance of macroeconomic information and it is not limited to assessing the

usefulness of segment disclosures. As discussed earlier, we deliberately keep ‘domestic’ and

‘non-domestic’ firms to generate a forecasting model of firm profitability. As we expect country

level exposures to matter for both ‘domestic’ and ‘non-domestic’ firms, we include both sets of

firms to increase the power of this fundamental forecast. However, for our empirical analysis

testing the relative efficiency of analyst forecasts and stock prices with respect to

macroeconomic information, we separately examine ‘domestic’ and ‘non-domestic’ firms, as we

expect those groups to differ in systematic ways (e.g., firm size, liquidity and complexity).

The disclosure practices of firms related to segment disclosures vary considerably, both

across time and across firms. There is little homogeneity in how firms choose to describe the

geographic regions in which they source their revenues. This creates a challenge for accurately

mapping geographic regions to countries. We use a standard tree structure that maps various

23
geographic regions to member countries. For companies that report sales at an aggregated

regional level, we allocate these sales across the member countries using a GDP weighting for

that respective year (consistent with Roberts, 1989). This approach exploits the relative

importance of economic activity across countries within that region by allocating more sales to

the more important member countries. Undoubtedly, this choice introduces measurement error

into our country level sales exposures for firms that have targeted certain countries within a

geographic region. However, absent reliable data we cannot do more than this. Balakrishnan,

Harris and Sen (1990) note that for their sample of 89 firms there is a close mapping between

actual country specific sales disclosures and implied country specific sales (using a GNP

weighting across countries within a particular region), suggesting that the measurement error

may not be that large for our sample. We then standardize the country level sales data such that

they sum to one for each firm year. A detailed example for Mulberry Group PLC is shown in

Appendix I.

3.2 Country level forecasts

We use two measures of expected country level performance: (i) country level real GDP

forecasts from Consensus Economics (CE), and (ii) recent country level stock returns from the

MSCI indices. CE was founded in 1989 and they have been collecting survey data from over

700 economists since that time. Each month, CE surveys the economists to collect views on

expected growth across a large set of countries. The surveyed economists typically provide a

forecast of real GDP growth (and components) for the next two calendar years. A key benefit of

this data source is that it is ‘point-in-time’: the forecasts of economists are included in the CE

datasets and they are never changed. In addition, prior research has shown that, with few

exceptions, the CE forecasts are less biased and more accurate in terms of mean absolute error

24
and root mean square error relative to forecasts from the OECD and IMF (Batchelor, 2001). We

use the average GDP forecast across the CE survey participants for each country. Similar to our

focus on 12-month ahead earnings and sales forecasts from sell side analysts, we combine the

one year ahead and two year ahead GDP growth forecasts by placing less (more) weight on the

one (two) year ahead GDP growth forecast as the forecasting month gets closer to the end of the

first year. This 12 month-ahead forecast of GDP growth has a natural economic interpretation as

it is measured in percentage points of expected growth. For our second measure of country level

performance we compute a rolling six month stock return momentum measure for each country.

Table 2 reports the distribution of both country level measures. We have real GDP

growth forecasts for all 56 countries but only have stock return data from MSCI for 34 countries.

The requirement of MSCI country level returns reduces our global sample by about 15 percent.

Not all countries are covered in all years for the CE measures as countries were added during the

1990s as CE was growing its coverage. Given that our time period spans the 1998 to 2010

period, it is not surprising to see that the countries with the highest average level are

concentrated in the developing markets (e.g., China and India). Across all countries, however,

there is significant variation in changes in both measures of expectations of country performance,

a necessary condition for our predictive tests to have any power.

As described in section 2.3, we combine the country level forecast with the firm level

geographic exposures (from the most recent fiscal year) to compute two measures labelled as

 and  respectively where the superscript reflects the information source

for the expected country level performance. A key difference between these two measures is that

 reflects expectations only of real GDP growth, whereas  reflects

aggregate expectations of changes in dividend growth (inclusive of real GDP growth and other

25
affects) and changes in discount rates. The latter measure is likely to be more responsive to

changes in the macroeconomic environment, but will be affected by both fundamental and non-

fundamental factors (see e.g., Cutler, Poterba and Summers, 1989) which may decrease its

usefulness to forecast firm fundamentals.

Panel B of table 1 notes that the average value of  ( ) is 3.23

(0.005) consistent with most countries experiencing GDP growth during this time period, but

muted stock returns over the same period. More important, however, is the large standard

deviation in these measures, 2.35 (0.036), and large inter-quartile range, 2.57 (0.028)

respectively. Thus, ex ante, there should be sufficient power to exploit both time series and cross

sectional variation in  to help forecast firm fundamentals, analyst revisions and future

stock returns.

3.3 Fundamental, analyst and market data

All of our fundamental data to compute the measures described in section 2.4 are derived

from annual (or interim) financial statements collected by Compustat for US firms and FactSet

Fundamentals for non-US firms. Analyst forecast data are sourced from I/B/E/S for both US and

non-US firms. Our market data are obtained from CRSP for US firms and Compustat Global for

non-US firms. We include all firms in our analysis with non-missing data to compute  ,

and make no exclusions on the basis of industry membership. Our primary sample starts in 1998

due to our inability to obtain geographic segment data from FactSet Fundamentals prior to 1998.

4. Results

4.1 Firm fundamentals

Table 3 reports the regression coefficient estimates of equation (1). We estimate this

regression separately each year for each of the twelve industry groups listed in table 1. The

26
reported coefficients are then averaged across years and industry groups. Standard errors are

based on the time series and cross sectional variation in industry-year estimates with corrections

for serial correlation. Inferences are similar if we instead estimate pooled regressions and

compute standard errors cluster by firm and year. We estimate equation (1) for both 

and  .

Consistent with prior research we see that profitability is mean reverting as evidenced by

the %& coefficient of about 0.582 (0.92) for the  (
) forecasting equations. As expected,

we also see that the level of future profitability is decreasing (increasing) in )* (
,- ). We

also document a strong negative relation between /0 and future profitability and a strong

positive relation between dividend payment status and dividend yield and future profitability.

All of these results are consistent with recent research (e.g., So, 2012 and Hou, van Dijk and

Zhang, 2012).

Consistent with P1 we find a positive and significance coefficient on both  and

 . The % coefficient of 0.002 (0.001) for one year ahead ROA (SOA) using

 has a clear economic interpretation: a one percentage point change in real GDP

forecasts is associated with an additional 20 (10) basis points of  (
) in the following

year controlling for other known determinants of profitability. Likewise, the % coefficient of

0.078 (0.321) for one year ahead ROA (SOA) using  also has a clear economic

interpretation: a one percentage point increase in country level returns is associated with an

additional 8 (32) basis points of ROA (SOA) in the following year controlling for other known

determinants of profitability.

To make stronger inferences about the predictive content of  , we compare the

absolute forecast errors described in equations (2a) and (2b). For each industry-year group we

27
estimate equation (1) with and without the respective  variable. We re-estimate

equation (1) each year from 2006 to 2011 adding one additional year as we move forward in time.

We then compare differences in  forecast errors on a pooled and industry grouping basis.

When we include  into the forecast, we find that the average of the median absolute

forecast error of ROA (SOA) is significantly lower by 2 basis points (not statistically different).

When we include  into the forecast, we find that the average of the median absolute

forecast error of ROA (SOA) is significantly higher by 2 basis points (significantly lower by 12

basis points). While the magnitude of the reduction in forecast error seems small in economic

terms, and is actually worse for the ROA forecasts when using  , it is consistent with

previous research. For example, Fairfield and Yohn (2001) document that a forecasting model

for changes in return on net operating assets that includes profit margins and asset turnover

relative to a forecasting model that excludes this information, was more accurate by a magnitude

of 0.0003 (0.0002) for the average (median) paired difference. Further, Fairfield, Sweeney and

Yohn (1996) document that the median improvement in out-of-sample forecast accuracy by

separately treating non-recurring items, arguably a more ‘important’ forecasting variable, is

between 5 and 10 basis points (relative to book equity) for a large sample of US firms over the

1981-1990 time period. Thus, the magnitude of forecast accuracy improvement we document is

similar to prior research.

For our tests using real GDP forecasts we also run additional analysis attempting to

decompose GDP into its components (untabulated for sake of brevity). Corporate profits are a

significant component of GDP (using an income decomposition of GDP). By aggregating

individual company level earnings forecasts to the country level we are able to form crude

measures of expectations of country level growth in corporate profitability. Specifically, we

28
aggregate all 12 month-ahead forecasts for each firm in a given country and then compute

monthly revisions in this aggregate earnings forecast. We use these country level corporate

A]^.O]A`
earnings growth forecasts to compute a new measure:  . For our sample, the

average cross-sectional correlation in expected country performance across real GDP growth

forecasts and our imputed country level corporate earnings growth forecast is only 0.035.

Further, the average firm level cross-sectional correlation between  and

A]^.O]A`
 is 0.094. Thus, multicollinearity is not likely to be an issue when including

both measures. Including this new variable in our estimation of equation (1) does not affect the

magnitude, nor significance, of  in the ROA specification. Assuming our aggregation

of firm level earnings forecasts to the country level is valid, this suggests that it is growth in

other components of GDP (e.g., employee wages and other aggregate sources of income) are

driving the improved forecasts of ROA. We note, however, that in the SOA specification

A]^.O]A`
 is significant, but  is not, suggesting that expectations of corporate

profits are driving the improved forecasts of SOA.

4.2 Sell-side analyst earnings forecasts

Table 4 panels A and B (C and D) reports the regression coefficient estimates of equation

(3) for earnings (sales) forecast revisions. We estimate these equations separately for each month

and reported coefficients are averaged across months. Standard errors are based on the time

series variation in monthly regression coefficients.

Consistent with prior research we find that analyst revisions are strongly serially

correlated. The %& coefficient is about 0.1 for the next three months for both earnings and sales

forecast revisions. Likewise, analyst revisions are also strongly related to past returns (%. is

strongly significant for both earnings and sales revisions) and market expectations for growth (%(

29
and %+ are significant in most months). We also find a strong negative relation between /0

and future earnings revisions consistent with Bradshaw, Richardson and Sloan (2001).

Consistent with P2, we find a robust positive association between  and future

analyst revisions for both earnings (panel A of Table 4) and sales (panel C of Table 4) for the

following three months. However, we only find a robust positive association between

 and future analyst revisions of sales (panel D of Table 4). There is no evidence of a

lagged response in sell-side analyst earnings forecasts with respect to  (panel B of

Table 4).

4.3 Stock returns

Having established the relative ability of  to forecast both firm fundamentals and

sell-side analyst earnings revisions, we now assess whether it has any predictive value for equity

returns. Table 5 reports regression estimates of equation (5). We estimate equation (5) every

month and report averages of estimated regression coefficients. Standard errors are based on the

time series variation in estimated regression coefficients. Equation (5) is estimated three times

each month to assess the predictive content of our included explanatory variables over the next

three months. We report four panels in table 5 to correspond to the two weighting schemes

described in section 2.4.3 and the two measures:  and  .

Consistent with prior research we see that equity returns are (i) strongly positively

associated with )* and 0G/ , (ii) negatively correlated with the most recent stock returns,


* , (iii) negatively correlated with /0 , (iv) positively associated with IJ

(weakly so in the value-weighted regressions), (v) weakly negatively related with
,- , and (vi)

unrelated with )I . The weak association for IJ in the value weighted specification

is partly attributable to our use of a global sample of securities. Asness (2011) notes that

30
momentum is not evident in Japan, and its relation with future returns is conditional on the

inclusion of other characteristics. Indeed, when we exclude Japanese securities from our sample,

we find that IJ becomes more significant, albeit still at marginal levels. The weak

association between )I and future returns is consistent with much prior research (e.g., Fama

and French, 1992). Consistent with P4 we find a positive association between our primary

variable of interest,  , and future equity returns for the next three months, but note that

(i) the significance of  is marginal in the value weighted specification (panel A of

Table 5), and (ii) the significance of  is limited to the first month (panels B and D of

Table 5).

To assess the economic significance of the relation between  and future equity

returns, we examine portfolio level returns in table 6. As discussed in section 2.4.3, every month

we form 25 portfolios based on a conditional sort, first on  and then on the respective

 measure. We then compute the value weighted return for each of these 25 portfolios

over the next month. We also report a hedge return as the difference in the average portfolio

return across the extreme  quintiles. Test statistics are reported based on the time series

variation in this hedge return.

The first row of panel A of table 6 reports the average  for firms across the five

 quintiles. These market values have been adjusted to 2011 dollars using a GDP

deflator to allow comparison across time. The smallest quintile contains securities with a market

capitalization of about $15 million and the largest quintile contains securities with a market

capitalization of about $2.74 billion. Clearly there is a very large difference in the economic

importance of securities across the five quintiles. Table 6 shows that, across the five 

quintiles, the value weighted hedge return associated with  is significant for the next

31
month, with the magnitude of the relation varying between 160 basis points per month for the

middle quintile and 87 basis points per month for the largest quintile. A stronger pattern is

observed for  : the value weighted hedge return ranges between 183 basis points for

the second smallest quintile to 85 basis points per month for the largest quintile. We interpret

this as strong evidence in support of P4. While these portfolios are all buy-and-hold for a given

month, they would require rebalancing at a monthly frequency. Absent clean data on expected

transaction costs for an institutional investor in a global context, we are unable to make strong

inferences on an implementable trading strategy.

In table 7 we report estimates of equation (6) for value weighted Z

/[
returns. We

see very significant intercepts which translate into economically and statistically significant

conditional Sharpe Ratios (see last row of table 7). These large conditional Sharpe ratios suggest

that the portfolio returns documented in table 7 cannot be explained by the set of seven risk

factors. Of course, it is always possible there is an unidentified risk factor which time varies

with our Z
/[
returns. Of the included risk factors, there is strong evidence that Z
/[
 is

positively associated with \* and  , and weakly negatively associated with Z3 .

Specifically, the regression coefficients suggest that the returns to a portfolio exploiting

geographic exposures tends to outperform when (i) the overall equity market is doing well, (ii)

recent ‘winners’ have been performing well, and (iii) underperform when ‘value’ firms out-

perform.

4.4 Extensions and robustness analyses

4.4.1 Time series partitions

A necessary condition for  to be able to forecast future firm performance and

returns is that there is cross-sectional dispersion in either (i) the 12 month ahead real GDP

32
forecasts from CE or (ii) the rolling six month country level returns we gather from MSCI.

Table 2 documents considerable variation in these forecasts across countries and time. Our

empirical analysis thus far is all cross-sectional. To identify whether there is additional

information content in the time series of our country level forecasts, we compute the across

country dispersion in the (i) 12 month ahead real GDP forecasts each month, and (ii) rolling six

month country level MSCI returns. We then associate this measure of dispersion with the

predictive ability of  for revisions and returns in the following month(s). Specifically,

we correlate the % coefficients from equation (4) and equation (5) with this dispersion measure

for the next six months. Our prior is that when there is greater dispersion in beliefs across

expected country level performance, there is greater potential for information content (assuming

that forecasting skill of analysts providing forecasts is not negatively associated with this

aggregate dispersion). We find some evidence that country level dispersion is associated with

the future predictive ability of  . For example, (i) the correlation between dispersion in

expected country level performance over the past six months and the % coefficient in equation

(4) averages 0.10 (0.2) for the next three months of analyst earnings (sales) revisions, and (ii) the

correlation between dispersion in expected country level performance over the past six months

and the % coefficient in equation (5) is between 0.26 and 0.12 for the next three months. These

relations are strongest for the sample of non-domestic firms and only hold for the 

measure. We interpret this evidence as providing limited support for P3a and P5a.

4.4.2 Cross-sectional partitions

We now turn to cross sectional partitions to understand why there is an association

between both  measures and future analyst revisions and future stock returns. In panel

A of Table 8 we re-estimate equation (4) for various cross sectional partitions. For the sake of

33
brevity we only report the % coefficient. In panel B of Table 8 we report the hedge return using

various measures by varying the set of included regression variables and we also consider

characteristic adjusted returns as per Daniel, Grinblatt, Titman and Wermers (1997). We do not

re-estimate equation (3) across these partitions as we have no prior as to why the relation

between expected country level performance and future firm fundamentals would vary along the

dimensions we examine.

The partitions we examine are as follows: (i) firm size using both in-sample breakpoints

and NYSE breakpoints, (ii) analyst following, (iii) comparing ‘domestic’ to ‘non-domestic’ firms,

(iv) considering firm complexity within the set of ‘non-domestic’ firms using the reported

number of geographic segments as our measure of complexity, and (v) the effect of inclusion in

the MSCI indices for the stock return analyses. As outlined in P3b and P5b, we expect the

predictive ability of  to vary across the size partitions and analyst following partitions,

with stronger results expected for the smaller, less followed firms. We also expect the predictive

ability of  to be greater for firms that are more complex, consistent with the prior

literature on limited attention and economic linkages (see e.g., Cohen and Frazzini, 2008 and

Cohen and Lou, 2012).

Table 8 summarizes the results. We show the full sample results in bold at the top of each

panel for comparison with the earlier tables, and the fraction of the full sample included in each

partition in parentheses beside the partition label. For the sake of brevity we only report the %

coefficient for the respective  measures.

For the analyst revision tests we find little evidence of variation in the % coefficient

across firm size and analyst following partitions for the  measure. If anything, the

relation is stronger for the middle size and analyst following group. For the 

34
measure, we continue to see very little evidence of a relation with analyst earnings revisions

consistent with the results in panel B of Table 4. But we do see some evidence that the relation

with analyst sales revisions is stronger for the sub-sample with the lowest analyst following.

Splitting the sample on the basis of ‘domesticity’ reveals similar economic magnitudes for

‘domestic’ and ‘non-domestic’ firms in the relation between future analyst forecast revisions of

earnings and sales for  , and a stronger relation for the non-domestic firms using

 . Within the sample of ‘non-domestic’ firms when we partition firms on the basis of

‘complexity’ we find a stronger relation for the complex sub-sample with the 

measure, but a much weaker relation for the complex sub-sample with the  measure.

Obviously the cross-sectional partitions we use are not independent, so to help control for

multiple dimensions we further partition the sample of complex ‘non-domestic’ based on firm

size and domicile. For the larger complicated non-domestic firms (5.3% of the full sample) we

find that the relation between analyst revisions of sales and earnings are more strongly associated

with both  measures, however relations are not statistically significant for the

 measure. While this partition covers only 5.3% of the full sample (still over 800

firms for the average month) these are the largest multi-national firms in the world comprising

21% of aggregate market capitalization. Finally, we find no evidence of a positive relation

between analyst earnings and sales revisions and  for US domiciled firms, and a

statistically negative relation for earnings revisions and  . This lack of results for US

firms is consistent with our priors for several reasons: (i) as discussed in section 3.1 we expect

greater measurement error in the geographic sales exposures for US firms, (ii) US firms are

known to be more liquid and capital market participants are more sophisticated relative to other

markets, and (iii) when limiting the sample to ever smaller numbers of firms we reduce the

35
natural variation in the respective measure making it more difficult to isolate any effect. Overall,

panel A of Table 8 provides only limited evidence in support of P3b.

For the stock return analyses reported in panel B of Table 8, we find reasonably

consistent evidence of a weaker relation between both  measures and future stock

returns for the largest sub-sample based on market capitalization and for firms with the greatest

analyst following. For example, across both  measures we find hedge returns that are,

on average across the three measures of hedge returns, 51 (66) percent lower for the largest firms

using NYSE breakpoints (firms with highest analyst following). We further find that hedge

returns are, again on average across the three measures of hedge returns, 2.65 (1.88) times

greater for firms that are not included in the MSCI country indices within the full (‘domestic’)

sample. This result is consistent with our prediction of market segmentation where investors

trading on the basis of macroeconomic information are likely to trade baskets of securities (e.g.,

MSCI country indices) which have greater sensitivity to that macroeconomic information. We

find that hedge returns are on average significant for  , and not for  , when

limiting the sample to ‘non-domestic’ firms (and in that case the hedge returns are only 32

percent as large for the ‘non-domestic’ firms relative to the ‘domestic’ firms). However, we find

strong evidence that the hedge returns are on average 2.60 times greater for the complex ‘non-

domestic’ firms relative to the simple ‘non-domestic’ firms and the hedge returns for the

complex sub-group are significant at conventional levels in 5 of the 6 cases.

As discussed above, our cross-sectional partitions are not independent, so we also further

partition the sample of complex ‘non-domestic’ based on firm size and domicile. For the larger

complicated non-domestic sample we find hedge returns that are on average 2.14 times larger

than that for the smaller complicated non-domestic firms. When we split the sample of complex

36
‘non-domestic’ firms on the basis of domicile, consistent with the analyst revision results, we

find inconsistent results across the  measures. For  we find a negative

(positive) relation with future hedge returns for US (Non-US) firms, but the relation is only

significant for the 7-factor alpha hedge returns. For  we find a consistently positive

relation with future hedge returns and while the hedge return is economically larger for the US

sample, it is statistically stronger for the non-US sample, most likely due to the difference in

sample size. As discussed above, we have priors for a weaker relation for US firms, but not a

prior for a negative return relation. Collectively, the results in panel B of Table 8 are consistent

with P5b, but the results are stronger for non-US firms.

4.4.3 Other (untabulated) analyses

To help isolate the information content of geographic segment disclosures, we additively

decompose both  and  for sub-samples of ‘non-domestic’ firms which

have an economically meaningful exposure to foreign markets as measured by either (i) foreign

sales exceeding 20 percent of total sales, or (ii) greater than three geographic segments. For

example, Mulberry PLC is a UK listed company, and in August 2010, as described in Appendix I,

Mulberry reports sales across the following regions: (i) Europe 90%, (ii) Asia 5.1%, (iii) North

America 3.2%, and (iv) rest of the world for 1.7%. Using GDP weights, UK (Mulberry’s home

country) accounts for 11.6% of Europe, so Mulberry reports 10.44% sales from its home country

(0.116 x 0.9) and 98.56% spread across foreign countries. In this way, for every firm with

economically meaningful exposure to foreign countries, we decompose both  and

 into their respective home country ( a@, ) and foreign country

(b@?cd, ) components. A benefit of this decomposition is that each sub-component has

a natural scale reflecting the relative importance of the home country relative to foreign countries.

37
We re-estimate equations (3) and (5) with these additive decompositions and find that both

a@, and b@?cd, are positively associated with future analyst revisions and

future stock returns. It is also important to remember the results for US firms disclosed

separately in Table 8. When using the  measure there is still a robust positive

relation with future stock returns. This relation can only be explained by foreign country

exposures as all of these firms are US domiciled.

We have also included both  and  into estimates of equations (1),

(3) and (5). Given that both measures use the same set of country exposures a possible concern

for this analysis is multicollinearity. For our sample the average cross-sectional correlation in

expected country performance across real GDP growth forecasts and rolling six month country

level stock returns is only 0.067. Further, the average firm level cross-sectional correlation

between  and  is 0.176. Thus, multicollinearity is not likely to be an issue

when including both measures. We find that both measures are significant across regression

equations (1), (3) and (5), consistent with the tabulated results. We also find a slight increase in

explanatory power from the inclusion of both measures, suggesting that they provide orthogonal

information about expected country level performance.

5. Conclusion

In this paper we outline an approach to incorporate macroeconomic information into firm

level forecasts. Using a large sample of publicly traded firms around the world, we show that

combining geographic segment sales disclosures and forecasts of country level performance

generates significant out of sample improvement in forecasting firm level profitability. We also

find that sell side analysts are slow to incorporate this information into their forecasts. Finally,

we find that stock prices are also slow to incorporate this information.

38
 Our results suggest potential benefits to detailed contextual analysis which seeks to

identify value drivers that are external to the firm. Combining firm specific exposures to these

value drivers with a directional view on the value driver should create improvements in our

ability to understand and hopefully forecast future firm fundamentals and associated risks.

39
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44
 Appendix I: Calculation of efghij for Mulberry Group PLC

In the fiscal year ended on March 2010, Mulberry's sales are from the following regions: (i)
Europe 90%, (ii) Asia 5.1%, (iii) North America 3.2%, and (iv) ‘Rest of the World’ 1.7%. We
use this exposure matrix to calculate  for each month from August 2010 to July 2011.
For example,   for Mulberry in August 2010 is calculated as:

 = %
 I
J l ×
 [   
J l] + %
 I ,
×
 [    ,] + %
 I 0 Iℎ  ,
×
 [    0 Iℎ  ,] + %
 I I  Iℎ o 8
×
 [    I  Iℎ o 8]

To compute our measures of expected performance across the geographic regions we use
Consensus Economics (CE) GDP growth forecast data. We calculate the one year head GDP
growth forecast for each country as the weighted average of the mean forecasts for the first and
second years, using (13-m)/12 as the weight for the first year forecast, where m is the forecast
month in the calendar year. For example, In March 2009, the mean US GDP growth forecasts for
2009 and 2010 are -2.82% and 1.72%, respectively. The one year ahead GDP growth forecast in
p &
March 2009 is calculated as × (−2.82%) + × 1.72% = −2.30%.
& &

For regions that comprise multiple countries, we assume that each company’s operations across
countries are directly proportional to the relative GDPs across these countries. For example, to
compute the expected performance for Europe as of August 2010 (i.e.,

 [   
J l]) we:

1) Calculate the total 2009 GDP of European countries using GDP data from IMF World
Economic Outlook Databases (http://www.imf.org/external/ns/cs.aspx?id=28).

2) Calculate the GDP percentage of each of the 28 countries in Europe with CE GDP growth
forecast data.

Country GDP percentage Country GDP percentage

Austria 0.020 Lithuania 0.002
Belgium 0.025 Netherlands 0.042
Bulgaria 0.003 Norway 0.020
Czech Republic 0.010 Poland 0.023
Denmark 0.016 Portugal 0.013
Estonia 0.001 Romania 0.009
Finland 0.013 Russian Federation 0.065
France 0.140 Slovakia 0.005
Germany 0.176 Slovenia 0.003
Greece 0.017 Spain 0.078
Hungary 0.007 Sweden 0.022
Ireland 0.012 Switzerland 0.026

45
 Italy 0.113 United Kingdom 0.116
Latvia 0.001 UKraine 0.007

3)
 [   
J l], as of August 2010, is then calculated as the sum of the
individual country level one year ahead GDP forecast, as described above, multiplied by the
GDP percentages in the above table.

 [    ,] and

 [    0 Iℎ  ,] are calculated
similarly. To calculate
 [    I  Iℎ o 8], we assume that the World
consists of the 184 countries with GDP data from IMF World Economic Outlook Databases. We
first identify the countries included in Rest of the World by removing countries in Europe, Asia,
and North America. We then apply the procedure in Step 2) above to calculate

 [    I  Iℎ o 8 ].

46
 Appendix II: Variable definitions

Variable Description
I Total assets as at the end of the fiscal year (in USD millions).
Equity market beta estimated from a rolling regression of 60 months of
)I
data requiring at least 36 months of non-missing return data.
Book-to-market ratio computed as the ratio of common equity to equity
market capitalization, both measured at the fiscal period end date for the
)*
most recent and available fiscal period prior to month t. See Figure 1 for
more details.
O
8G ln O Q , where G is Industrial Production Index at the end of month t
QTU
from the Board of Governors of the Federal Reserve System (INDPRO),
available at the St Louis Fed web site:
http://research.stlouisfed.org/fred2/
8 Change in risk premium,  − X , where  is the difference
between the Moody’s Seasoned BAA Corporate Bond Yield from the
Board of Governors of the Federal Reserve System (BAA) and the 10-
Year US Treasury constant maturity rate from the Board of Governors of
the Federal Reserve System (GS10). BAA and GS10 are available at the
St Louis Fed web site: http://research.stlouisfed.org/fred2/.
8*
Change in term structure,*
 − *
X, where *
is the difference between
the 10-Year US Treasury constant maturity rate (GS10) and the 2-Year
US Treasury constant maturity rate (GS2), both from the Board of
Governors of the Federal Reserve System. Both GS10 and GS2 are
available at the Louis Fed web site: http://research.stlouisfed.org/fred2/
An indicator variable equal to one for firms that pay dividends and zero
/_/,5
otherwise.
/,5_7,8 Dividends per share divided by stock prices.
An indicator variable equal to one for firms that have negative earnings
/_3
before extraordinary items and zero otherwise.
The change of net operating assets, scaled by total assets, where net
operating assets are calculated as operating assets (total assets less the sum
/0
of cash and investments) minus operating liabilities (total liability minus
total debt).
An indicator variable equal to one for firms that have no foreign sales and
/

*G
zero otherwise.
Z3 Monthly mimicking global (developed market) factor portfolio return to
the value factor, obtained from Ken French’s website.
The sum product of a firm’s geographic sales exposure to a country and
the one year ahead Consensus Economics GDP growth forecast of the
country. The geographic sales data are extracted from the most recent

annual report prior to month t (ensuring at least a four month gap between
the end of the fiscal year and month t). See Section 2.3 for details and
Appendix I for an example.

47
 The sum product of a firm’s geographic sales exposure to a country and
the most recent six month return from the MSCI index for that country.
The geographic sales data are extracted from the most recent annual report

prior to month t (ensuring at least a four month gap between the end of the
fiscal year and month t). See Section 2.3 for details and Appendix I for an
example.
 Equity market capitalization (in USD millions).
Variable Description
\* Monthly excess (to risk free rate) global market return, obtained from Ken
French’s website.
 Average global (developed market) return on the two high prior return
portfolios minus the average return on the two low prior return portfolios,
obtained from Ken French’s website.
The average monthly equity return inclusive of dividends from month t-6
IJ
to month t-1.
Earnings-to-Price ratio computed as the ratio of net income before
extraordinary items to equity market capitalization, both measured at the
0G/
fiscal period end date for the most recent and available fiscal period prior
to month t. See Figure 1 for more details.

* Monthly equity return inclusive of dividends.
Return on assets computed as the ratio of net income before extraordinary

items to average total assets.
This is the monthly revision in median consensus sell-side analyst
earnings or sales forecasts. Earnings forecast revision is calculated as
[O&P,QRS ]
5,,,F = ln [O& , where
[

12, ] is a calendar
P,QRSTU ]

5,, weighted combination of one year ahead,

[

1, ], and two year ahead,

[

2, ], earnings forecasts as at month t. The weights across the two
earnings forecasts are chosen such that the combined forecast is for twelve
months ahead. This ensures cross-sectional comparability across earnings
forecast revisions. Sales forecast revision is calculated similarly.

 Total sales for the fiscal year (in USD millions).

,- Natural logarithm of equity market capitalization (in USD millions).

) Monthly mimicking global (developed market) factor portfolio return to
the size factor, obtained from Ken French’s website.

 The ratio of sales to average total assets.

48
 Figure 1

Timeline for ROA and SOA Tests

(Dec 31, 2010 fiscal year example)

etuvwj is measured as at Dec, 31, 2010.

vwtj† is measured for
The geographic exposure matrix is from the year ended Dec 31, 2010.
the 12 months ended Dec
We use the real GDP growth forecasts available as at Dec 31, 2010.
31, 2011.

Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
2010 2011

vwtj , xywtj , x_zi{{j , f|} x_x~j are all measured for the 12 months ended Dec 31, 2010.
€ej f|} x~_‚~ƒz}j are measured using book equity, dividends and prices as at Dec 31, 2010.
„~…ƒj is measured as at Dec 31, 2010.

* The regressions reported in table 3 are based on firm-year observations. Thus, while we are able to measure  every month
we only use  for the period that coincides with the end of the previous year. This is to ensure that all of the explanatory
variables are measured prior to the future profitability, F , that we are trying to forecast.

49
 Figure 2

Timeline for Return and Analyst Forecast Revision Tests

(June 30, 2011 forecasting period, with k=6)

etuvwj is measured as at end of June, 2011.

The geographic exposure matrix is from the year ended Dec 31, 2010. vƒ~{~i|j‡ or vˆj‡
We use real GDP growth forecasts available as at June 30, 2011.

eiŒƒ|jŒj is measured from Dec, 2010 to May, 2011.

Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
2010 2011

„~…ƒj and €ƒjfj are measured as at end of June , 2011.

vˆj and vƒ~{~i|j are for the month of June 2011.
€ej , xywtj , x_‰i{{j and yŠ/‹j are measured
financial statement data from no later than March 2011.

* The regressions reported in tables 4 and 5 are based on firm-month observations. We are careful to ensure that all explanatory
variables are known to the analysts and the market at month t.

50
 Table 1 Summary Statistics

Panel A: Country Distribution

Number of Firm-Years Percentage
Argentina 1,101 0.29
Australia 12,720 3.34
Austria 1,305 0.34
Belgium 1,882 0.49
Bulgaria 107 0.03
Brazil 4,479 1.18
Canada 12,823 3.37
Chile 2,406 0.63
China 23,109 6.33
Colombia 484 0.13
Croatia 221 0.06
Czech Republic 390 0.10
Denmark 2,448 0.64
Egypt 864 0.23
Estonia 91 0.02
Finland 1,771 0.46
France 10,607 2.78
Germany 11,280 2.96
Greece 3,742 0.98
Hong Kong 11,954 3.14
Hungary 508 0.13
India 18,007 4.73
Indonesia 4,390 1.15
Ireland 826 0.22
Israel 2,334 0.61
Italy 3,782 0.99
Japan 51,663 13.56
Korea, Republic 12,694 3.33
Latvia 42 0.01
Lithuania 92 0.02
Malaysia 11,697 3.07
Mexico 1,715 0.45
Netherlands 2,419 0.63
New Zealand 1,530 0.45
Norway 2,491 0.65
Panama 11 0.00
Peru 1,146 0.30
Philippines 2,483 0.65
Poland 3,022 0.79
Portugal 779 0.20
Romania 81 0.02
Russia 1,584 0.42

51
Panel A: Country Distribution (continued)
Number of Firm-Years Percentage
Singapore 6,995 1.84
Slovakia 206 0.05
Slovenia 162 0.04
South Africa 4,682 1.23
Spain 2,049 0.54
Sweden 4,804 1.26
Switzerland 3,413 1.05
Taiwan 16,549 4.34
Thailand 6,171 1.62
Turkey 2,823 0.74
Ukraine 37 0.01
United Kingdom 25,024 6.57
United States 79,585 20.89
Venezuela 410 0.11
Total 381,030 100

Panel B: Firm Characteristics

Mean Std. Dev. P25 P50 P75

 862.29 2757.17 22.59 93.35 393.97
I 1,891.01 7054.54 38.85 145.93 610.39
 899.95 2937.65 23.02 87.44 391.30

,- 4.588 2.124 3.137 4.471 5.970
)* 1.081 1.157 0.405 0.750 1.304
 0.001 0.151 -0.005 0.024 0.065

 0.901 0.794 0.296 0.747 1.252
/0 0.038 0.219 -0.041 0.022 0.108
/_3 0.284 0.000 0.000 0.000 1.000
/_/,5 0.495 0.500 0.000 0.000 1.000
/,57,8 0.019 0.057 0.000 0.000 0.023
/

*G 0.751 0.432 1.000 1.000 1.000
 3.231 2.354 1.768 2.881 4.341
 0.005 0.036 -0.010 0.005 0.018

52
Panel C: Industry Distribution (Fama-French 12 Industries)
Number of
Percentage
Firm-Year
Consumer Non-Durables 32,039 8.41
Consumer Durables 12,365 3.25
Manufacturing 50,021 13.13
Oil, Gas, and Coal Extraction and Products 9,964 2.62
Chemicals and Allied Products 13,401 3.52
Business Equipment 57,368 15.06
Telephone and Television Transmission 9,050 2.38
Utilities 9,544 2.50
Wholesale, Retail, and Some Services 33,787 8.87
Healthcare, Medical Equipment, and Drugs 20,139 5.29
Money and Finance 72,230 18.96
Other 61,122 16.04
Total 381,030 100

This table reports summary statistics for the sample. The sample only includes countries with
Consensus Economics GDP forecast data. The sample period is 1998-2010. The sample includes
381,030 firm-years and 4,518,347 firm-months. Panel A reports the distribution of countries of
domicile. Panel B reports firm characteristics. All variables are defined in Appendix II. Panel C
presents industry distribution. The industry classification follows the twelve primary industry
groupings identified in Fama-French (1997).

53
 Table 2
Summary Statistics for Country Level Forecasts

Consensus Economics Country Level Stock Returns

(Real GDP Forecasts) (MSCI Index Returns)
IQ IQ
Country Mean Std Dev. Range Mean Std Dev.
Range
Argentina 3.31 3.61 4.79 0.019 0.057 0.059
Australia 3.1 0.76 0.53 0.003 0.020 0.022
Austria 1.8 1.03 0.79 0.003 0.040 0.038
Belgium 1.71 1.04 0.82 -0.002 0.033 0.036
Bulgaria 3.21 1.46 1.79
Brazil 3.73 1.88 2.36 0.014 0.034 0.042
Canada 2.51 0.99 0.66 0.006 0.026 0.026
Chile 4.39 1.37 1.96
China 8.47 0.98 1.71
Colombia 3.36 1.47 2.09
Croatia 2.78 1.81 2.51
Czech Republic 2.92 1.67 2.02
Denmark 1.68 0.91 0.55 0.007 0.029 0.037
Egypt 4.65 1.3 2.02
Estonia 4.02 3.5 2.51
Finland 2.4 1.38 0.88 0.002 0.049 0.061
France 1.73 1.01 0.66 0.001 0.028 0.033
Germany 1.46 1.18 1.03 0.001 0.033 0.038
Greece 2.14 2.38 1.37 -0.007 0.046 0.064
Hong Kong 3.76 1.94 2.35 0.006 0.033 0.040
Hungary 2.79 2.06 1.41
India 6.91 1 1.6 0.015 0.041 0.052
Indonesia 4.58 1.72 2.11
Ireland 3.44 3.14 3.93 -0.008 0.036 0.040
Israel 2.99 1.19 1.85
Italy 1.15 1.13 0.78 -0.003 0.028 0.031
Japan 1.03 1.4 1.49 -0.002 0.028 0.040
Korea, Republic 4.49 1.56 0.79
Latvia 3.61 4.5 3.61
Lithuania 3.62 3.54 3.26
Malaysia 4.75 1.6 1.21 0.008 0.030 0.030
Mexico 3.1 1.49 0.87 0.014 0.029 0.038
Netherlands 1.68 1.27 1.32 -0.001 0.029 0.031
New Zealand 2.41 0.91 0.81
Norway 2.18 1.02 1.47 0.007 0.034 0.033
Panama 4.27 1.8 2.82

54
 Peru 4.62 1.41 2.19 0.018 0.040 0.042
Philippines 4.12 1.02 1.38 0.004 0.033 0.045
Poland 3.87 1.28 1.9 0.006 0.036 0.040
Portugal 1.17 1.57 1.12 -0.002 0.028 0.034
Romania 3.13 2.49 4.06
Russia 4.12 2.6 2.33 0.021 0.059 0.055
Singapore 4.48 2.24 1.91 0.006 0.034 0.039
Slovakia 3.97 2.16 2.5
Slovenia 3.16 1.54 0.96
South Africa 3.37 0.98 1.07 0.012 0.024 0.033
Spain 2.05 1.59 2.18 0.002 0.028 0.032
Sweden 2.45 1.26 1.23 0.005 0.037 0.047
Switzerland 1.54 0.82 0.76 -0.000 0.023 0.031
Taiwan 3.96 1.75 1.26 0.003 0.038 0.038
Thailand 4.14 1.59 1.03 0.011 0.039 0.041
Turkey 3.69 2.05 2.45
Ukraine 3.58 3.36 2.72
United Kingdom 1.85 1.18 0.84 0.000 0.020 0.021
United States 2.61 1.28 1.08 0.001 0.023 0.023
Venezuela 2.16 3.94 6.08

Full Sample 3.23 2.35 2.57 0.005 0.036 0.028

This table reports summary statistics for the time series distribution of two sets of country level
forecasts. The first three columns report the means, standard deviations and interquartile ranges
of monthly Consensus Economics real GDP forecasts. These forecasts are the weighted average
of the mean forecast for the first and second years such that the combined forecast always has a
twelve month horizon. The last three columns report the means, standard deviations and
interquartile ranges of country forecasts using MSCI index returns. This return forecast is based
on a rolling six month window of country level returns.

55
 Table 3 Macroeconomic Information and Future Firm Performance

ROA (Income/Average Assets)

vwtj† = Ž + † etuvwj +  vwtj +‘ €ej +’ „~…ƒj + “ xywtj + ‡ x_‰i{{j +” x_x~j +• x~_‚~ƒz}j + ƒj† (1)

Panel A : Consensus Economics Real GDP Forecasts (etuvwuˆ j ) [N=235,667 firm-years]

Ž †  ‘ ’ “ ‡ ” • Adj. v
Coefficient -0.022 0.002 0.582 -0.005 0.003 -0.058 -0.017 0.020 0.063 0.375
(t-statistic) (-6.12) (3.71) (37.42) (-6.53) (17.58) (24.55) (-8.49) (15.62) (4.32)

Panel B : MSCI Index level country stock return (etuvwe„uŠ

j ) [N=198,989 firm-years]
Ž †  ‘ ’ “ ‡ ” • Adj. v
Coefficient -0.0178 0.078 0.587 -0.006 0.003 -0.061 -0.018 0.020 0.050 0.381
(t-statistic) (-8.49) (4.99) (38.78) (-7.02) (12.61) (-19.28) (-9.77) (12.32) (3.98)

SOA (Sales/Average Assets)

„wtj† = Ž + † etuvwj +  „wtj +‘ €ej +’ „~…ƒj + “ xywtj + ‡ x_‰i{{j +” x_x~j +• x~_‚~ƒz}j + ƒj† (1)

Panel C : Consensus Economics Real GDP Forecasts (etuvwuˆ j ) [N=229,933 firm-years]

Ž †  ‘ ’ “ ‡ ” • Adj. v
Coefficient 0.086 0.001 0.917 -0.003 -0.004 -0.148 0.035 0.009 0.059 0.858
(t-statistic) (9.71) (2.33) (173.65) (-2.49) (-6.36) (-31.21) (14.07) (3.75) (2.05)

Panel D : MSCI Index level country stock return (etuvwe„uŠ

j ) [N=193,415 firm-years]
Ž †  ‘ ’ “ ‡ ” • Adj. v
Coefficient 0.089 0.321 0.917 -0.003 -0.005 -0.144 0.038 0.009 0.080 0.862
(t-statistic) (15.92) (3.66) (164.88) (-3.06) (-6.53) (-28.79) (13.07) (4.47) (2.67)

The reported regression coefficients are mean coefficients from year-industry regressions, weighting each regression by the square
root of sample size for each year-industry (assumes greater precision for those industry-year groups with greater sample size). The t-
statistics (reported in parentheses below coefficient estimates) are based on the standard errors of the coefficient estimates across the

56
year-industry regressions, adjusted for autocorrelation in the annual coefficient estimates based on an assumed AR(1) autocorrelation
structure. Standard errors are multiplied by an adjustment factor, –(1 + —)/(1 − —) − 2—(1 − —˜ )/(1 − —)& , where n is the number
of years and — is the first-order autocorrelation of the annual coefficient estimates. All variables are defined in Appendix II.

57
 Table 4 Macroeconomic Information and Future Analyst Forecast Revisions

vƒ~{~i|j™ = Ž + † etuvwj + vƒ~{~i|j + ‘ €ej + ’ yŠ/‹j + “ eiŒƒ|jŒj +‡xywtj + ”x_‰i{{j + ƒj™ (3)

EPS Forecast Revision

Panel A : Consensus Economics Real GDP Forecasts (etuvwuˆ

j ) [N=648,786 firm-months]
k Ž †  ‘ ’ “ ‡ ” Adj. R2
Coefficient 1 0.0058 0.0007 0.0898 -0.0028 -0.0712 0.2707 -0.0054 0.0267 0.047
(t-statistic) (4.20) (3.27) (14.94) (-3.95) (-12.64) (21.22) (-3.15) (20.04)
Coefficient 2 0.0053 0.0009 0.0695 -0.0025 -0.0740 0.2249 -0.0072 0.0218 0.035
(t-statistic) (3.32) (3.70) (14.66) (-3.06) (-12.26) (18.27) (-4.17) (16.40)
Coefficient 3 0.0043 0.0010 0.0915 -0.0009 -0.0754 0.1480 -0.0083 0.0170 0.033
(t-statistic) (2.51) (3.99) (18.87) (-1.04) (-12.00) (15.71) (-4.54) (11.95)

Panel B : MSCI Index level country stock return (etuvwe„uŠ

j ) [N=582,262 firm-months]
k Ž †  ‘ ’ “ ‡ ” Adj. v
Coefficient 1 0.0069 0.0291 0.0920 -0.0034 -0.0733 0.2720 -0.0044 0.0273 0.049
(t-statistic) (4.98) (0.90) (14.69) (-4.50) (-13.02) (21.08) (-2.34) (20.34)
Coefficient 2 0.0072 0.0131 0.0714 -0.0034 -0.0751 0.2278 -0.0064 0.0222 0.037
(t-statistic) (4.21) (0.45) (14.02) (-3.90) (-12.74) (17.84) (-3.38) (16.29)
Coefficient 3 0.0059 0.0378 0.0948 -0.0013 -0.0745 0.1474 -0.0075 0.0171 0.034
(t-statistic) (3.50) (1.24) (18.62) (-1.48) (-11.72) (15.33) (-3.87) (11.86)

58
Sales Forecast Revision

Panel C : Consensus Economics Real GDP Forecasts (etuvwuˆj ) [N=674,917 firm-months]

k Ž †  ‘ ’ “ ‡ ” Adj. R2
Coefficient 1 0.0047 0.0011 0.0943 -0.0039 -0.0139 0.0882 0.0117 0.0009 0.041
(t-statistic) (11.41) (17.10) (24.95) (-17.17) (-8.01) (24.80) (20.86) (2.53)
Coefficient 2 0.0045 0.0011 0.0800 -0.0040 -0.0129 0.0825 0.0104 0.0005 0.037
(t-statistic) (10.32) (17.20) (26.69) (-16.62) (-6.39) (22.60) (17.73) (1.31)
Coefficient 3 0.0042 0.0010 0.1052 -0.0035 -0.0132 0.0664 0.0081 0.0004 0.034
(t-statistic) (9.03) (15.24) (26.11) (-16.19) (-6.55) (23.47) (12.62) (1.06)

Panel D : MSCI Index level country stock return (etuvwe„uŠ

j ) [N=603,899 firm-months]
k Ž †  ‘ ’ “ ‡ ” Adj. v
Coefficient 1 0.0069 0.0264 0.0988 -0.0043 -0.0120 0.0890 0.0124 0.0010 0.041
(t-statistic) (13.08) (2.33) (25.55) (-18.44) (-6.66) (24.80) (20.12) (2.73)
Coefficient 2 0.0070 0.0389 0.0842 -0.0044 -0.0111 0.0834 0.0110 0.0006 0.036
(t-statistic) (11.29) (3.09) (26.80) (-17.92) (-5.08) (22.44) (17.38) (1.58)
Coefficient 3 0.0065 0.0517 0.1133 -0.0038 -0.0107 0.0665 0.0085 0.0005 0.038
(t-statistic) (12.40) (4.38) (27.76) (-17.15) (-4.97) (22.88) (12.61) (1.25)

The reported regression coefficients are mean coefficients from monthly regressions, weighting each regression by the square root of
sample size for each month. All variables are defined in Appendix II. Panel A and B (C and D) report regression results for consensus
analyst Earnings Per Share (Sales Per Share) forecast revisions.

59
 Table 5 Macroeconomic Information and Future Stock Returns

vˆj™ = Ž + † etuvwj +  €ej + ‘ yŠ/‹j + ’ €ƒjfj + “ „~…ƒj + ‡ vˆj + ” eiŒƒ|jŒj +• }ywtj + š x_‰i{{j + ƒj™ (5)

Value weighted regressions

Panel A: Consensus Economics Real GDP Forecasts (etuvwuˆ j ) [N=2,177,490 firm-months]
› œ† œ œ‘ œ’ œ“ œ‡ œ” œ• œš Adj. R2
k=1
Coefficient 0.0103 0.0012 0.0016 0.0396 0.0004 -0.0007 -0.0191 0.0287 -0.0096 -0.0034 0.076
(t-statistic) (1.76) (1.66) (1.64) (4.82) (0.16) (-2.02) (-2.99) (1.38) (-4.84) (-2.47)
k=2
Coefficient 0.0100 0.0011 0.0011 0.0315 0.0005 -0.0007 -0.0047 0.0287 -0.0094 -0.0035 0.072
(t-statistic) (1.72) (1.69) (1.28) (3.87) (0.18) (-1.93) (-0.85) (1.49) (-4.49) (-2.38)
k=3
Coefficient 0.0083 0.0011 0.0013 0.0294 0.0004 -0.0005 0.0081 0.0193 -0.0090 -0.0027 0.071
(t-statistic) (1.43) (1.62) (1.50) (3.57) (0.17) (-1.59) (1.43) (1.09) (-3.98) (-1.84)

Panel B : MSCI Index level country stock return (etuvwe„uŠ

j ) [N=1,865,805 firm-months]
Ž †  ‘ ’ “ ‡ ” • š Adj. v
k=1
Coefficient 0.0070 0.213 0.0017 0.0446 0.0011 -0.0006 -0.0199 0.0362 -0.0100 -0.0034 0.068
(t-statistic) (1.20) (2.68) (1.59) (5.17) (0.43) (-1.75) (-3.11) (1.71) (-4.75) (-2.37)
k=2
Coefficient 0.0112 -0.0555 0.0015 0.0385 0.0006 -0.0006 0.0026 0.0391 -0.0098 -0.0032 0.064
(t-statistic) (1.94) (-0.70) (1.54) (4.65) (0.24) (-1.67) (0.46) (2.06) (-4.42) (-2.11)
k=3
Coefficient 0.0092 -0.0976 0.0014 0.0384 0.0011 -0.0005 0.0140 0.0201 -0.0090 -0.0024 0.061
(t-statistic) (1.59) (-1.30) (1.42) (4.69) (0.43) (-1.30) (2.54) (1.12) (-3.64) (-1.61)

60
(1/) weighted regressions
Panel C : Consensus Economics Real GDP Forecasts (etuvwuˆ j ) [N=2,087,585 firm-months]
› œ† œ œ‘ œ’ œ“ œ‡ œ” œ• œš Adj. R2
k=1
Coefficient 0.0074 0.0016 0.0015 0.0237 0.0018 -0.0007 -0.0274 0.0712 -0.0073 -0.0039 0.053
(t-statistic) (1.80) (2.44) (2.69) (5.12) (0.88) (-2.35) (-4.07) (3.82) (-4.63) (-4.10)
k=2
Coefficient 0.0070 0.0017 0.0013 0.0237 0.0014 -0.0005 0.0036 0.0521 -0.0063 -0.0034 0.052
(t-statistic) (1.70) (2.62) (2.30) (4.87) (0.57) (-1.86) (0.70) (3.16) (-4.24) (-3.68)
k=3
Coefficient 0.0062 0.0017 0.0015 0.0202 0.0011 -0.0005 0.0144 0.0500 -0.0065 -0.0028 0.051
(t-statistic) (1.49) (2.57) (2.55) (4.17) (0.44) (-1.60) (2.82) (3.10) (-4.28) (-3.12)

Panel D : MSCI Index level country stock return (etuvwe„uŠ

j ) [N=1,776,003 firm-months]
Ž †  ‘ ’ “ ‡ ” • š Adj. v
k=1
Coefficient 0.0062 0.2505 0.0015 0.0365 0.0022 -0.0005 -0.0355 0.0645 -0.0058 -0.0034 0.052
(t-statistic) (1.53) (3.69) (2.70) (6.53) (0.83) (-1.64) (-5.63) (3.56) (-3.74) (-3.79)
k=2
Coefficient 0.0094 0.0123 0.0012 0.0309 0.0017 -0.005 0.0078 0.0611 -0.0054 -0.0029 0.047
(t-statistic) (2.24) (0.19) (2.11) (5.80) (0.66) (-1.70) (1.54) (3.64) (-3.43) (-3.19)
k=3
Coefficient 0.0083 -0.0139 0.0013 0.0293 0.0021 -0.0004 0.0184 0.0541 -0.0057 -0.0025 0.046
(t-statistic) (2.00) (-0.22) (2.13) (5.60) (0.81) (-1.39) (3.68) (3.26) (-3.48) (-2.64)

The reported regression coefficients are mean coefficients from monthly regressions. In computing averages and standard errors each
cross section is weighted by the square root of sample size given more weight to the largest cross sections. Within each cross section
security level returns are value weighted in panels A and B (where the weights are the square root of the securities market
capitalization in USD) and 1/ž & weighted in panels C and D (the weights are inversely proportional to the historical volatility of
idiosyncratic returns). All other variables are as defined in Appendix II.

61
 Table 6 Future Stock Returns Related to efghij Across Size Quintiles

Panel A: Return of One Month Ahead using etuvwuˆ

j
Size Quintile
Small 2 3 4 Large
eut‹ 15.31 56.28 155.18 472.12 2738.99
Low 0.0111 0.0111 0.0042 0.0043 0.0010
2 0.0130 0.0130 0.0095 0.0082 0.0052
MACRO 3 0.0176 0.0176 0.0120 0.0085 0.0072
Quintile 4 0.0287 0.0287 0.0160 0.0111 0.0086
High 0.0248 0.0248 0.0203 0.0202 0.0104

Hedge 0.0136 0.0136 0.0160 0.0155 0.0087

t-statistic 2.24 2.24 2.64 2.13 2.14
Sharpe ratio 0.63 0.63 0.74 0.60 0.60

Panel B: Return of One Month Ahead using etuvwe„uŠ

j

Size Quintile
Small 2 3 4 Large
eut‹ 14.23 52.99 149.31 485.27 3070.49
Low 0.0146 0.0055 0.0059 0.0053 0.0029
2 0.0154 0.0114 0.0109 0.0093 0.0094
MACRO 3 0.0084 0.0115 0.0069 0.0071 0.0035
Quintile 4 0.0193 0.0092 0.0078 0.0076 0.0042
High 0.0319 0.0231 0.0205 0.0181 0.0116

Hedge 0.0172 0.0183 0.0153 0.0127 0.0085

t-statistic 2.71 3.46 3.41 3.14 2.74
Sharpe ratio 0.77 0.98 0.96 0.89 0.77

For each month, stocks are first sorted into five equal groups based on market capitalization
(in USD). Then, within each size group, stocks are further sorted based on  . The
portfolio returns are value weighted (where the weights are computed as market capitalization,
in USD). The ‘Hedge’ return is the difference between the average portfolio returns across
extreme quintiles. The Sharpe ratio is calculated following Lewellen (2010). Return are
reported in decimal units (i.e., 0.01 is 1%). MCAP is median market capitalization in USD,
adjusted to the PPI level in September 2011.

62
 Table 7
Ex Post Return Analysis

Ÿˆx ˆj = Ž + † e¡j +  „e€j + ‘ Ÿe‰j + ’ ewej + “ }v‹j + ‡ }„j +

” }Š‹j + ƒj (6)

Ÿˆx ˆ returns based on etuvwuˆj Ÿˆx ˆ returns based on etuvwe„uŠ

j
I II III IV I II III IV
Ž 0.0100 0.0118 0.0118 0.0117 0.0121 0.0118 0.0119 0.0113
(2.30) (2.67) (2.62) (2.57) (3.33) (3.20) (3.18) (3.04)
† 0.0025 0.0022 0.0022 -0.0043 0.0023 0.0021 0.0020 -0.0036
(2.84) (2.50) (2.37) (-0.19) (3.08) (2.80) (2.57) (-0.20)
 -0.0007 -0.0007 0.0220 0.0032 0.0033 0.0497
(-0.33) (-0.34) (0.85) (1.95) (1.90) (2.33)
‘ -0.0032 -0.0031 -0.6871 -0.0011 -0.0011 -0.4531
(-2.03) (-1.94) (-1.15) (-0.82) (-0.83) (-0.92)
’ 0.0001 0.0025 -0.0001 0.0023
(0.08) (2.36) (-0.16) (2.71)
“ -0.0010 0.0032
(-0.44) (1.73)
‡ -0.0031 -0.0010
(-1.88) (-0.75)
” 0.0004 0.0002
(0.40) (0.29)

Adj. v 0.045 0.059 0.052 0.047 0.054 0.077 0.071 0.092

Sharpe 0.65 0.76 0.74 0.73 0.94 0.91 0.90 0.86

For each month, stocks are sorted into five equal groups based on  . The portfolio
returns are value weighted (where the weights are market capitalization, in USD). The
Z
/[
return is the difference between the average portfolio returns across extreme
quintiles for the following month. The Sharpe ratio is calculated as the ratio of the annualized
return (as measured by the intercept) relative to the annualized standard deviation, following
Lewellen (2010). The remaining variables are defined in Appendix II.

63
 Table 8
Cross sectional partitions
Panel A: Macroeconomic information and one month ahead analyst revisions
etuvwuˆ j etuvwe„uŠ
j
EPS forecast revisions Sales forecast revisions EPS forecast revisions Sales forecast revisions
Full Sample: Coefficient T-statistic Coefficient T-statistic Coefficient T-statistic Coefficient T-statistic
0.0007 (3.27) 0.0011 (17.10) 0.0291 (0.90) 0.0264 (2.33)
Partition full sample on firm size (full sample breakpoints):
Small (33.3%) 0.0007 (2.49) 0.0011 (12.25) 0.0606 (1.29) 0.0184 (1.17)
Medium (33.3%) 0.0008 (2.77) 0.0009 (10.19) -0.0121 (-0.28) 0.0292 (1.90)
Large (33.3%) 0.0006 (1.95) 0.0012 (12.77) 0.0427 (1.26) 0.0267 (1.79)
Partition full sample on firm size (NYSE breakpoints):
Small (71.0%) 0.0007 (2.56) 0.0010 (12.29) 0.0336 (0.77) 0.0225 (1.58)
Medium (18.9%) 0.0009 (2.90) 0.0010 (11.73) 0.0458 (1.22) 0.0289 (1.97)
Large (10.1%) 0.0005 (1.46) 0.0012 (9.91) 0.0190 (0.44) 0.0219 (1.35)
Partition full sample on analyst following:
Low (36.6%) 0.0005 (1.85) 0.0010 (10.60) 0.0845 (1.82) 0.0394 (2.69)
Medium (31.5%) 0.0007 (1.98) 0.0011 (11.47) -0.0315 (-0.81) 0.0177 (1.00)
High (32.9%) 0.0006 (2.12) 0.0010 (12.77) 0.0043 (0.11) 0.0160 (1.31)
Partition full sample on domesticity:
Domestic (69%) 0.0008 (3.58) 0.0010 (13.44) 0.0289 (0.86) 0.0250 (2.04)
Non-domestic (31%) 0.0009 (2.18) 0.0011 (9.92) 0.0759 (1.46) 0.0382 (2.52)

Partition non-domestic sample on complexity:

Simple (19.5%) 0.0007 (1.86) 0.0010 (9.08) 0.1224 (2.49) 0.0483 (3.13)

Complex (10.5%) 0.0012 (1.99) 0.0011 (6.25) -0.0283 (-0.33) 0.0177 (0.67)
o Partition non-domestic complicated sample on firm size:
o Small (5.3%) 0.0009 (1.19) 0.0008 (3.55) -0.0711 (-0.70) -0.0128 (-0.39)
o Large (5.3%) 0.0015 (1.91) 0.0014 (5.61) 0.0642 (0.68) 0.0378 (1.10)
o Partition non-domestic complicated sample on firm domicile:
o US (3.6%) -0.0019 (-0.73) 0.0002 (0.23) -0.7452 (-2.19) -0.1534 (-1.32)
o Non-US (6.9%) 0.0012 (1.73) 0.0011 (7.02) 0.0675 (0.75) 0.0426 (1.72)
64
Panel B: Macroeconomic information and one month ahead future stock returns
etuvwuˆj etuvwe„uŠ
j
Raw DGTW Ÿˆx ˆ 7-factor Ž Raw Ÿˆx ˆ DGTW Ÿˆx ˆ 7-factor Ž
Ÿˆx ˆ
Full Sample: 0.0105 0.0096 0.0117 0.0125 0.0087 0.0113
(2.40) (2.57) (2.57) (3.36) (2.68) (3.04)
Partition full sample on firm size (full sample breakpoints):
Small (33.3%) 0.0107 0.0132 0.0135 0.0212 0.0216 0.0212
(1.74) (2.40) (2.12) (3.48) (3.76) (3.28)
Medium (33.3%) 0.0159 0.0163 0.0196 0.0184 0.0174 0.0180
(2.68) (3.23) (3.28) (4.30) (4.45) (4.06)
Large (33.3%) 0.0098 0.0072 0.0101 0.0097 0.0064 0.0093
(2.04) (1.74) (2.05) (3.07) (2.25) (2.91)
Partition full sample on firm size (NYSE breakpoints):
Small (70.3%) 0.0135 0.0145 0.0178 0.0186 0.0179 0.0181
(2.24) (2.91) (2.86) (4.26) (4.47) (3.97)
Medium (20.0%) 0.0106 0.0095 0.0132 0.0088 0.0069 0.0106
(1.82) (1.87) (2.22) (2.36) (1.95) (2.73)
Large (10.7%) 0.0087 0.0069 0.0100 0.0088 0.0060 0.0077
(2.38) (2.18) (2.68) (2.73) (2.10) (2.37)
Partition full sample on analyst following:
Low (25.0%) 0.0142 0.0134 0.0161 0.0180 0.0152 0.0206
(2.17) (2.33) (2.46) (3.47) (3.16) (3.92)
Medium (16.1%) 0.0103 0.0089 0.0145 0.0167 0.0161 0.0206
(1.53) (1.46) (2.23) (2.70) (2.62) (3.27)
High (18.7%) 0.0063 0.0051 0.0077 0.0048 0.0035 0.0046
(1.74) (1.58) (2.15) (1.65) (1.32) (1.56)
Partition full sample on MSCI index inclusion:
Constituents (7.7%) 0.0083 0.0063 0.0093 0.0040 0.0031 0.0049
(1.74) (1.90) (2.43) (1.20) (1.03) (1.45)
Non-Constituents (92.3%) 0.0114 0.0108 0.0130 0.0168 0.0126 0.0155
(2.18) (2.41) (2.35) (3.91) (3.18) (3.59)
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Partition domestic firms on MSCI index inclusion:
Constituents (3.4%) 0.0095 0.0083 0.0096 0.0107 0.0087 0.0099
(1.69) (1.64) (1.76) (2.15) (1.87) (1.97)
Non-Constituents (67.4%) 0.0159 0.0153 0.0180 0.0215 0.0167 0.0193
(2.49) (2.76) (2.68) (4.45) (3.80) (3.98)

Partition full sample on domesticity:

Domestic (70.7%) 0.0137 0.0129 0.0165 0.0196 0.0156 0.0175
(2.47) (2.61) (2.83) (4.36) (3.89) (3.91)
Non-domestic (29.3%) 0.0030 0.0034 0.0036 0.0066 0.0046 0.0060
(0.97) (1.32) (1.31) (2.46) (1.92) (2.12)

Partition non-domestic sample on complexity:

Simple (18.4%) 0.0017 0.0017 0.0024 0.0058 0.0033 0.0050
(0.48) (0.57) (0.66) (1.75) (1.12) (1.46)

Complex (10.9%) 0.0065 0.0066 0.0078 0.0074 0.0066 0.0067
(1.57) (1.82) (2.04) (2.18) (2.32) (1.88)
o Partition non-domestic complicated sample on firm size:
o Small (5.5%) 0.0035 0.0037 0.0020 0.0025 0.0039 0.0035
(0.66) (0.72) (0.37) (0.62) (1.00) (0.82)
o Large (5.5%) 0.0069 0.0064 0.0081 0.0056 0.0058 0.0047
(1.92) (1.89) (1.43) (1.92) (2.27) (1.58)
o Partition non-domestic complicated sample on firm domicile:
o US (2.6%) -0.0070 -0.0059 -0.0106 0.0108 0.0095 0.0080
(-1.30) (-1.25) (-2.05) (1.79) (1.83) (1.26)
o Non-US (8.3%) 0.0091 0.0076 0.0084 0.0063 0.0059 0.0062
(1.36) (1.34) (1.24) (2.14) (2.18) (2.05)

Partitions: The fraction of the full sample included in each cross sectional partition is shown in parentheses next to the partition label. We
partition each cross-section on the basis of firm size twice. The first approach groups firms into three equal sized groups using breakpoints for
the entire sample from the previous month. The second approach uses NYSE breakpoints from the previous month. We group firms below
(above) the NYSE size 20th (60th) percentile into the small (large) group. The remaining firms are placed into the middle group. Complex
(simple) firms are those firms with more (less) then 3 reported geographic segments. This partition is only conducted for the non-domestic

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sample. We partition the sub-sample of firms with analyst following (62.8 percent of the full sample) into three groups based on analyst
following ‘tercile’ breakpoints from the previous month.
Panel A: We estimate regression equation (3) for the full sample and for each partition described above. For the sake of brevity we report only
the regression coefficient (with Fama-Macbeth test statistic in parentheses adjacent to coefficient) for  .
Panel B: In each month all securities are sorted into five equal sized groups based on  . The portfolio returns are value weighted (the
weights are market capitalization, in USD). The Z
/[
return is the difference in total returns between the average portfolio returns across
extreme quintiles for the following month. The DGTW Z
/[
return is the difference in characteristic adjusted returns between the average
portfolio returns across extreme quintiles for the following month. To compute characteristic adjusted returns we follow the procedure in Daniel,
Grinblatt, Titman and Wermers (1997). Specifically we sort all securities each month into 125 portfolios based on a conditional sorting on the
following characteristics: (i) size, (ii) B/P, and (iii) momentum. Value weighted returns are computer for each cell each month. The
characteristic adjusted return is then the difference between the security return and the average return for the characteristic portfolio that security
belongs to. The 7-factor alpha is based on regression equation (6). We report the time series average of the hedge return with the associated test
statistic below in parentheses.

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