Paper Title
Understanding the Dynamics of R-Square as a Measure of Association between Financial Economics Numbers and Market Prices
Abstract
This paper investigates the intricate relationship between R-Square, financial reports, and market prices in the Noisy Rational Expectations Equilibrium (NREE) context. We explore how Non-Information Based (NIB) trading, including liquidity and noise trading, influences the association between financial reports and market prices, as measured by R-Square. Our findings reveal that as NIB trading intensifies, stock prices become noisier, causing a decline in R-Square. Importantly, this decline does not signify reduced data quality in financial reports but rather the amplification of noise in stock prices. Our research underscores the need for a nuanced interpretation of R-squared values. It offers valuable insights into the impact of noise on financial markets, contributing to a deeper understanding of information content and value relevance in financial economics.
JEL Classification: M41
Keywords - R-Square, Value Relevance, Noisy Rational Expectations Equilibrium, Non-Information Based Trading, Information Content, Market Prices, Financial Disclosures.