### Analyst Uncertainty as a Super-anomaly

**September 20, 2017** - Fundamental Valuation, Momentum Investing

Does uncertainty about future firm earnings underlie stock factor returns? In their August 2017 paper entitled “Uncertainty, Momentum, and Profitability”, Claire Liang, Zhenyang Tang and Xiaowei Xu examine relationships between analyst uncertainty about current-year firm earnings and four U.S. stock return anomalies. They each month estimate uncertainty for each stock as square root of the average squared differences between individual analyst forecasts for current-year earnings and reported earnings per share, divided by stock price. They then each month sort firms into fifths (quintiles) by:

- Uncertainty – as specified.
- Price momentum – stock returns from 12 months ago to one month ago.
- Earnings momentum – most recently announced quarterly earnings minus earnings from the same quarter one year ago, divided by the standard deviation of seasonal differences in earnings for the previous eight quarters.
- Operating profitability – annual revenue minus cost of goods sold, interest expense and selling, general, and administrative expenses, divided by book equity for the last fiscal year.
- Return on equity – earnings before extraordinary items from the most recent quarter divided by prior-quarter book equity.

They calculate gross monthly returns for each factor via an equal-weighted or value-weighted hedge portfolio that is each month long (short) the quintile of stocks with the highest (lowest) factor values. They test the power of uncertainty to explain other factor returns via regressions against uncertainty factor returns. Since some stocks may not have analyst coverage, they test whether idiosyncratic volatility and earnings forecast dispersion are effective substitutes for uncertainty. Using the specified monthly data for all NYSE/AMEX/NASDAQ stocks priced at least $1 during 1983 through 2013, *they find that:*