Limited attention and stock price drift following earnings announcements and 10‐K filings

Abstract

PurposeThis study aims to examine whether limited attention leads to the market underreaction to earnings announcement and 10‐K filings.Design/methodology/approachThis is an empirical study involving statistical analysis of a large sample of data, obtained from Compustat, CRSP and Xignite Inc. Both portfolio analysis and multivariate regressions are used in hypotheses testing.FindingsThe following key findings are presented in the paper. First, we show that among large firms, investors under‐react more to the information contained in 10‐K filings than earnings announcements. Second, underreaction to earnings announcements tends to be stronger for small firms than large firms. Third, we find that companies report their earnings and 10‐Ks earlier when there is a higher demand for such information, and document a negative relationship between the degree of underreaction and the timeliness of such information release. Finally, we show that the recent ruling by SEC to accelerate 10‐K filing has little impact on the degree of investors' underreaction to 10‐K information.Research limitations/implicationsThe findings of this study suggest that investors' failure to devote enough attention to an economic event leads to underreaction, and the degree of underreaction is negatively correlated with the amount of investor attention.Practical implicationsInvestors need to periodically reassess the informational contents of economic events, and allocate their attention accordingly, in order to avoid underreaction.Originality/valueThis study analyzes and the roles of limited attention in determining the degree of investor underreaction to earnings announcement and 10‐K filings. The comparison of the two related but distinct financial reporting events yields interesting insights.