Abstract
This paper utilizes Chinese stock data to provide further evidence on the power of limited attention theory in explaining post-earnings announcement drift. As retail investors prevail in China and they are easily distracted by market swings, we should expect severe attention problems, resulting in larger underreaction to firm information and higher sensitivity to market movement, i.e., the so-called “market movement effect”. After accounting for special arrangements such as preannouncements and earnings previews, we confirm a strong presence of this effect in Chinese stock market, given the “Friday effect” and “announcement concentration effect” being controlled for. Moreover, the effect is asymmetric in market up and down, and becomes more pronounced for small-cap and value stocks.Keywords: Limited attention, earnings announcement, market movement, China's stock market, abnormal returnsJEL Classifications: C58, G14, G41DOI: https://doi.org/10.32479/ijefi.10817
Highlights
Post-earnings announcement drift (PEAD) refers to the phenomenon that stocks with higher earnings surprises have higher abnormal returns lasting for a relatively long time after the underlying companies’ earnings announcement
Among all financial market anomalies, PEAD poses a great threat to the holding of the efficient market hypothesis (EMH), which predicts that asset price will react to public information quickly and accurately
Investors usually use “category thinking” when making investment decisions, that is they are more attentive to market-level information, the large market movement, and underreact to firm-specific earnings, which leads to a stronger PEAD
Summary
Post-earnings announcement drift (PEAD) refers to the phenomenon that stocks with higher earnings surprises have higher abnormal returns lasting for a relatively long time (say more than 6 months) after the underlying companies’ earnings announcement. Chinese A-share stock market participants focus more on the market movement and pay less attention to changes in individual firm earnings. They are in turn inclined to underreact to new earnings information and to be over-distracted by the market movement. As there exist just a few papers linking PEAD to investors’ attention issue and, to our knowledge, as there are scarce studies testing such linkage in an environment of large market movement event, our article adds to the research body about the impact of limited attention in China as well as that about the cause of Chinese financial market anomalies.
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