EMPIRICAL EVALUATION OF ACCOUNTING INCOME NUMBERS 163 [PRm-1]=i;+b2d[Lm-1]+0m, (3) where PRim is the monthly price relative for firm j and month m,L is the link relative of Fisher's "Combination Investment Performance Index" [Fisher (1966)],and jm is the stock return residual for firm j in month m. The value of [Lm-1]is an estimate of the market's monthly rate of return. The m-subscript in our sample assumes values for all months since January, 1946 for which data are available. The residual from the OLS regression represented in equation (3)meas- ures the extent to which the realized return differs from the expected return conditional upon the estimated regression parameters (,ba and the market index.[Lm-1].Thus,since the market has been found to adjust quickly and efficiently to new information,the residual must represent the impact of new information,about firm j alone,on the return from holding common stock in firm j. SOME ECONOMETRIC ISSUES One assumption of the OLS income regression model12 is that M;and u; are uncorrelated.Correlation between them can take at least two forms, namely the inclusion of firm j in the market index of income (M;),and the presence of industry effects.The first has been eliminated by construction (denoted by the j-subscript on M),but no adjustment has been made for the presence of industry effects.It has been estimated that industry effects probably account for only about 10 per cent of the variability in the level of a firm's income.1 For this reason equation (1)has been adopted as the appropriate specification in the belief that any bias in the estimates au and aas will not be significant.However,as a check on the statistical efficiency of the model,we also present results for an alternative,naive model which predicts that income will be the same for this year as for last.Its forecast error is simply the change in income since the previous year. As is the case with the income regression model,the stock return model,as presented,contains several obvious violations of the assumptions of the OLS regression model.First,the market index of returns is correlated with the residual because the market index contains the return on firm j,and be- cause of industry effects.Neither violation is serious,because Fisher's index is calculated over all stocks listed on the New York Stock Exchange (hence the return on security j is only a small part of the index),and because in- dustry effects account for at most 10 per cent of the variability in the rate 1That is,an assumption necessary for OLS to be the minimum-variance,linear, unbiased estimator. 1s The magnitude assigned to industry effects depends upon how broadly an indus- try is defined,which in turn depends upon the particular empirical application being considered.The estimate of 10 per cent is based on a two-digit classification scheme. There is some evidence that industry effects might account for more than 10 per cent when the association is estimated in first differences [Brealey (1968)1