Ranking of Firms by means of Financial Variables and Examination of its Relation with Stock Returns in Tehran Stock Exchange

The importance of information in the field of stock returns predictions has promoted many researchers to follow and find the variables and the indexes which have significant relationship with stock returns. This information can be divided into two separate categories of financial and non-financial information. The final results obtained from several researches in this area confirm that both financial and non-financial information have important effects on stock returns.This research examines the relationship between the accounting information and stock returns for companies listed in Tehran Stock Exchange during the years 2001 to 2006. The statistical techniques used in this paper are Correlation Analysis and Regression. We construct a financial score, covering the four important dimensions of companies including profitability, operating efficiency, liquidity and financial policy. Our financial score exhibits a strong correlation with market returns in the following fiscal year. Furthermore, there are significant correlations between this score and market returns in different periods. But there are no significant changes in strength and weakness of these relationships when the holding period is lagged. Furthermore, the successful firms (the firms with maximum financial score) earned more return compared to the unsuccessful firms (the firms with minimum financial score). Moreover, the results show that the strength of correlation between the financial score and the following market return is more than the strength of correlation between the current market return and the following market return. Therefore, our financial score has more predictive power for predicting the following period’s return compared to current period return. In general, the financial score and the current period return can justify 10.5 percent of change in the following period’s returns.