Post-earnings announcement abnormal return in the Chinese equity market

Abstract

This study examines the profitability of trading on earnings surprises in the post-earnings-announcement period in the Chinese stock market from 1994 to 2009. We find that a post-earnings-announcement drift (PEAD) anomaly exists in China. When earnings surprise is defined relative to analyst forecasts, a hedge strategy of going long the top quintile of earnings surprise stocks and short the bottom quintile of earnings surprise stocks can generate around 9.5% excess return in 1 year following the earnings announcements. When earnings surprise is defined relative to time-series model forecasts, a hedge strategy of going long the top quintile of earnings surprise stocks and short the bottom quintile of earnings surprise stocks can generate around 9% excess return in 1 year following the earnings announcements. The return from trading on earnings surprise is robust to the inclusion of beta, firm size, book-to-market ratio, momentum, liquidity and transaction cost measures, state ownership, cross-listing and accounting standards. There is evidence that the magnitude of PEAD increases in the level of arbitrage risk and decreases in the level of foreign ownership. We also find that PEAD is strongly related to firms’ future financial performance.