Stakeholder relations and stock returns: On errors in investors' expectations and learning

• We investigate the relationship between stakeholder relations and stock returns.
• We perform three mispricing tests using stock returns and market expectations.
• Firms with relatively good stakeholder relations were undervalued from 1992–2004.
• Consistent with learning: errors in expectations were lower after this period.

A significant number of institutional investors publicly state the belief that corporate stakeholder relations are associated with firm value in a manner that the financial market fails to understand. We investigate whether stakeholder information predicted risk-adjusted returns due to errors in investors' expectations and ultimately ceased to do so as attention for such information increased. We build a stakeholder-relations index (SI) for a wide range of U.S. firms over the period 1992–2009 and provide evidence that the SI explained errors in investors' expectations about firms' future earnings. The SI was positively associated with long-term risk-adjusted returns, earnings announcement returns, and errors in analysts' earnings forecasts over the period 1992–2004. However, as attention for stakeholder issues became more widespread, subsequently, these relationships diminished considerably. The results are consistent with the idea that increased investor attention for stakeholder issues eventually eliminates mispricing.