Currency fluctuations and the post-earnings announcement drift

Abstract

This study examines whether currency fluctuations can partially explain the post-earnings announcement drift (PEAD). First, after sorting firms based on standardized unexpected earnings (SUE), we document that firms in high (low) SUE-sorted portfolios respond more (less) favorably to contemporaneous currency fluctuations than the market average. Second, prior studies have found that investors underreact to the impact of currency fluctuations on firm earnings. This underreaction and the differential responsiveness to currency fluctuations across SUE-sorted deciles together offer an explanation why firms in high (low) SUE-sorted deciles continue to have higher (lower) returns than the market average in subsequent months. Empirically, we show that currency fluctuations can predict future earnings surprises and abnormal returns of the PEAD portfolios, which take a long position on firms in the highest SUE-sorted deciles and a short position on firms in the lowest SUE-sorted deciles. These findings provide evidence that currency fluctuations can partially explain PEAD.