Persistence in Growth Versus Market Expectations

We measure the persistence and predictability of sales and earnings growth for Australian-listed firms from 1989 to 2006. In contrast to results from the United States, there is evidence of persistence in growth. Rather, there is close to a two-thirds chance that a firm reporting growth above the industry median in one year repeats this performance in the following year. However, there is little evidence that valuation ratios - measured as revenue, earnings or book value of equity relative to market capitalisation - are particularly useful in predicting future growth. Instead, they reflect recent historical growth, especially in the case of the book-to-market ratio. Firms with low book-to-market ratios have relatively high growth over the previous five years, but their growth over the subsequent five years is almost indistinguishable from firms with high book-to-market ratios. The results are consistent with the hypothesis that value stocks outperform growth stocks because investors overstate firms' ability to consistently make high-growth investments