Liquidity, earnings management, and stock expected returns

This paper examines the relationships among liquidity, earnings management, and stock expected returns by using a sample of Chinese listed firms to investigate 22,022 firm-year observations from 1998 to 2018. Our study reveals that an increase in stock liquidity is associated with a decrease in the degree of earnings management. This result is robust to the use of alternative measures when endogeneity concerns are controlled for. Moreover, the findings indicate that the stock liquidity component of earnings management is positively associated with future stock returns in Chinese firms. Our results reveal that the stock liquidity component of short-termism in managerial decisions plays a critical role in determining future stock returns.