Earnings Momentum Research Articles

The economic-based earnings persistence of earnings momentum and its market implications

PurposePrior research on meeting or beating earnings thresholds documents that firms with earnings momentum are awarded with valuation premiums. However, it is unclear from this strand of literature why this is the case. Therefore, this study aims to investigate the effects of time-varying earnings persistence on earnings momentum and their pricing effects.Design/methodology/approachThis study exploits a firm that reports earnings momentum as research setting to examine whether earnings persistence is significantly higher for firms with consecutive earnings increases. In addition, it investigates a relation between earnings momentum and fundamentals-driven earnings persistence and estimates return associations of earnings momentum conditional on economic-based persistence of earnings.FindingsThe empirical evidence suggests that firms with earnings momentum reflect higher time-varying earnings persistence. It further reveals that longer duration of earnings momentum is associated with higher fundamentals-driven earnings persistence. More importantly, valuation premiums are exclusively assigned to earnings momentum determined by strong firm fundamentals, not momentum itself.Originality/valueThis study provides new empirical evidence that valuation premiums accrued to firms with earnings momentum are conditional on time-varying earnings persistence. The research implications are relevant to investors, regulators and auditors, as the results bring conclusions that earnings momentum reflects successful business models not poor accounting quality. This leads to a more complete view of earnings momentum and helps allocate resources when evaluating earnings-momentum firms.

Finanzmärkte 2022

After the strong growth rates of the previous year, the leading stock indices of the developed markets should rise moderately this year. The upward trend will be supported by a positive sales and earnings performance of the companies. The health care, energy and financial sectors should achieve the strongest gains in the next six months. Due to lower earnings momentum compared with the previous year, volatility in the leading indices will also increase. Gold gains importance in portfolio diversification in 2022. The gold price will benefit from the strongly negative real yields. It should also rise.

First-quarter chemical earnings please

The economic recovery from the COVID-19 pandemic appears to be gaining steam. Nearly every large chemical company posted increases in first-quarter sales and earnings from a year earlier, and double-digit sales gains were the norm. The world’s largest chemical maker, BASF, posted a 16% increase in sales for the quarter, while earnings swelled 59%. The big gainers for the German company were chemicals and materials, as well as its surface technology unit, which includes its coatings and catalysts businesses. BASF attributed the gains in all three segments to higher prices and volumes, a theme seen across the chemical industry as the economy recovers. “We had a strong start to the year,” BASF chairman Martin Brudermüller said in a statement announcing the results. “The positive earnings momentum of the fourth quarter of 2020 continued.” In late April, the largest US chemical maker, Dow, reported increases of 22% in sales and 133%

Mapping the scientific research on alternative momentum investing: a bibliometric analysis

PurposeThis study aims to recognize the current dynamics, prolific contributors and salient trends and propose future research directions in the area of alternative momentum investing.Design/methodology/approachThe study uses a blend of electronic database and forward reference searching to ensure the incorporation of all the significant studies. With the help of the Scopus database, the present study retrieves 122 research papers published from 1999 to 2020.FindingsThe results reveal that alternative momentum investing is an emerging area in the field of momentum investing. However, this area has witnessed an exponential growth in last ten years. The study also finds that North American, West European and East Asian countries dominate in total research publications. Through network citation analysis, the study identifies five major clusters: industrial momentum, earnings momentum, 52-week high momentum, time-series momentum and risk-managed momentum.Research limitations/implicationsThe present review will serve as a guide for financial researchers who intend to work on alternative momentum approaches. The study proposes several unexplored research themes in alternative momentum investing on which future studies can focus.Originality/valueThe study embellishes the existing literature on momentum investing by contributing the first bibliometric review on alternative momentum approaches.

What Does the Cross-Section Tell About Itself? An Asset Pricing Model with Cross-Sectional Moments

I propose a new risk-based explanation of momentum. I derive a simple two-factor asset pricing model, which contains the market return and stock return dispersion (RD) as risk factors. This model offers a large fit for portfolios sorted on momentum and industry momentum, with cross-sectional R^2 estimates around 80%. Past losers are more positively correlated with return dispersion, which earns a negative price of risk, and hence the lower risk premia earned by those stocks. The model compares favorably with some of the most popular multifactor models in the literature, and also helps explaining the earnings momentum and profitability anomalies.

Earnings Momentum and Bank Loan Quality

In the aftermath of the financial crisis, bankers, regulators, lawmakers, and others claimed that bank CEOs’ incentives to sustain high past earnings growth (earnings momentum) led banks to originate lower quality loans, which subsequently defaulted at high rates in the financial crisis. We examine this claim. Using a sample of 267 U.S. bank holding companies from 2001 to 2009, we find banks with high earnings momentum have more future non-performing loans (NPLs). In contrast, neither CEO compensation incentives nor benchmark beating metrics are associated with future NPLs. Consistent with career concerns, the effect of earnings momentum on future NPLs is concentrated in banks with younger CEOs. We also find earnings momentum is positively associated with bank failures. Further analyses show results are independent of competition pressures and earnings guidance. Our study contributes to the literature on factors associated with the dramatic collapse of the banking system during the financial crisis.

Earnings momentum meets short‐term return reversal

AbstractThis paper evaluates the effectiveness of a joint strategy that exploits fundamental‐based momentum and return‐based reversal anomalies. This joint strategy is motivated by two considerations. First, reversal can serve as a natural hedge to momentum. Second, both fundamental and price‐related information can contribute to stock return predictability. Consequently, we propose a new joint strategy that synthesises both earnings momentum and short‐term reversal. We find that this joint strategy generates considerable economic gains and outperforms the sum of profits from two individual anomalies. Moreover, the proposed strategy appears to be quite robust, generating stable and persistent profits across different market conditions.

Factor Performance 2010–2019: A Lost Decade?

The factors in the widely used Fama–French model experienced a negative average return during the 2010–2019 period. Perhaps surprisingly, such a lost decade is not unprecedented in history, as factor performance in the 2010s was, in fact, remarkably similar to factor performance in the 1990s. By contrast, many other factors did deliver a positive premium during the past decade. These factors include low risk, price momentum, earnings momentum, analyst revisions, seasonals, and short-term reversal. Thus, there appears to be a clear dichotomy in recent factor performance: while generally accepted factors struggled, various factors that are considered to be inferior or redundant remained effective. <b>TOPICS:</b>Factor-based models, style investing, volatility measures <b>Key Findings</b> • The factors in the widely used Fama–French model experienced a negative average return during the 2010–2019 period. This lost decade is remarkably similar to the 1990–1999 period. • Many other factors did deliver a positive premium during the past decade—for example, low risk, price momentum, earnings momentum, analyst revisions, seasonals, and short-term reversal. • In sum, there has been a clear dichotomy in recent factor performance: Although generally accepted factors struggled, other factors remained effective.

Idiosyncratic Momentum and the Importance of the Asset Pricing Model

Using four different asset pricing models to estimate the residual returns, I show empirically that there are no material differences in the statistical and economic significance between idiosyncratic momentum strategies based on different asset-pricing models. I also show that idiosyncratic momentum is priced in the cross-section of returns, but spanned by a combination of risk factors when the combination includes price momentum. Despite being explained by common risk factors, the results suggest that idiosyncratic momentum is a stronger factor than price momentum and has a lower exposure to earnings momentum than price momentum.

Factor Performance 2010-2019: A Lost Decade?

The factors in the widely used Fama-French model experienced a negative average return over the 2010-2019 period. Perhaps surprisingly, such a lost decade is not unprecedented in history, as factor performance in the 2010s is, in fact, remarkably similar to factor performance in the 1990s. By contrast, many other factors did deliver a positive premium over the past decade. These factors include low risk, price momentum, earnings momentum, analyst revisions, seasonals, and short-term reversal. Thus, there appears to be a clear dichotomy in recent factor performance: while generally accepted factors struggled, various factors that are considered to be inferior or redundant remained effective.

Limited investor attention, relative fundamental strength, and the cross-section of stock returns

We explore the underlying reasons for the apparent mispricing of firms based on fundamental information. We document that a relative fundamental strength strategy that buys (sells) firms with strong (weak) fundamentals is highly profitable for up to three years. The results cannot be explained by either price or earnings momentum, are robust to risk adjustments based on standard asset pricing models, and survive a battery of robustness tests. The strategy also works better among small firms, as well as firms with low analyst coverage and a high probability of informed trading. Our empirical findings support the hypotheses of limited investor attention and informed trading.

Uncertainty, Momentum, and Profitability

In this article, the authors argue that momentum and profitability factors share a common source in uncertainty. Specifically, the authors find that uncertainty subsumes price momentum and operating profitability; it also accounts for the majority of the profits associated with earnings momentum and return on equity, especially in large firms. Furthermore, the profits of the four aforementioned momentum/profitability strategies concentrate in periods of negative market returns, consistent with high-uncertainty stocks’ greater vulnerability to bad market states documented in recent literature. The market-state dependence of momentum/profitability strategies has significant implications for portfolio managers who attempt to profit from these strategies. Understanding the sources of the profits also helps portfolio managers better employ these factors in constructing investment portfolios.

Earnings Momentum, Adaptation Value, and Nonlinearities in the Valuation of Chinese Equity Stocks

We demonstrate that when the variables comprising a firm's investment opportunity set depend on their past values then the present value of the cash flows the firm expects to earn will be stated in terms of the levels and the momentum of the affected variables. It is also shown that the market value of a firm's equity is comprised of the present value of the cash flows it expects to earn from operating under its existing investment opportunity set plus the value of the real options the firm possesses to modify or even completely change its existing investment opportunity set. Our empirical analysis, based on both Chinese and US data, shows that earnings momentum and the adaptation and growth options typically available to firms all appear to have a significant impact on equity prices.

The Value Uncertainty Premium

This paper investigates whether the time-series volatility of book-to-market (BM), called value uncertainty (UNC), is priced in the cross-section of equity returns. A size- adjusted value-weighted factor with a long (short) position in high-UNC (low-UNC) stocks generates an annualized alpha of 6-8%. This value uncertainty premium is driven by outperformance of high-UNC firms and is not explained by established risk factors or firm characteristics, such as price and earnings momentum, investment, profitability, or BM itself. At the aggregate level, UNC is correlated with macroeconomic fundamentals and predicts future market returns and market volatility. We provide a rational asset- pricing explanation of the uncovered UNC premium.

Assessing the Relation Between Taxes and Stock Returns: The Critical Role of Choosing the Tax Variable

Firms invest non-trivial resources to avoid paying taxes. One of the presumed incentives for doing so is that it should increase the value of the firm. Surprisingly, a large number of studies find that tax expense is positively related to stock returns, suggesting that paying more taxes is good news. We re-evaluate this puzzling relation and provide new evidence that an increase in tax expense is indeed bad news. We begin by showing that the tax expense variable in a regression of returns on pretax income and tax expense captures the market’s pricing of book-tax differences, and importantly, the different tax variables used in the literature capture different components of book-tax differences. Using a regression that clearly distinguishes between temporary and permanent book-tax differences, we show that both temporary and permanent differences (after controlling for influential observations) are negatively related with contemporaneous returns. We also demonstrate that the positive association between contemporaneous returns and current and total expense documented in prior research is explained by influential observations and the intricacies of the accounting for temporary differences. Finally, we provide evidence that the positive relation between future returns and total tax expense, or tax expense momentum, can be attributed to the same market inefficiency captured by earnings momentum.

Macro Factors and Equity Risk Premia

We show that economic activity plays an important role in explaining momentum-based anomalies. A simple two-factor model containing the market and alternative indicators of economic activity as risk factors -- industrial production, capacity utilization rate, employees on nonfarm payrolls, retail sales, and a broad economic index -- offers considerable explanatory power for the cross-section of price and industry momentum portfolios. The model compares favorably with alternative multifactor models and is consistent with Merton's Intertemporal CAPM framework. Moreover, the model's fit is generally higher for value-weighted than for equal-weighted portfolios. Economic activity is, however, significantly less successful in explaining the earnings momentum anomaly.

Glamour Among Value: P/E Ratios and Value Investor Attention

Price-earnings (P/E) ratios, the most popular value metrics, are widely reported using the last four quarters of earnings. Trailing-four-quarter P/E ratios have significantly greater return predictability than lagged P/E ratios or current market-to-book ratios. The role of attention is evident in return patterns across the long and short portfolios, day of the week, and time since formation. Returns are robust to fundamentals, price momentum, or earnings momentum. P/E ratios predict changes in volume, liquidity, and idiosyncratic volatility. Financial data providers only report P/E ratios for stocks with positive earnings; P/E ratios only predict trading activity for these stocks.

Earnings Momentum in International Markets

This paper examines the profitability of earnings momentum strategies based on analyst forecast revisions in eleven international equity markets. While analyst forecast revisions exhibit persistence in all countries, the profitability of trading strategies based on these revisions varies. Specifically, earnings momentum yields significant profits in Australia, Canada, France, Germany, Hong Kong, and the United Kingdom, but not in Malaysia, South Korea, Japan, Singapore, or Taiwan. Interestingly, price momentum exists only in those countries where earnings momentum is profitable. In general, markets with high levels of corruption (low investor protection) exhibit weak momentum. Collectively, these findings suggest that the momentum phenomenon is related to information dissemination mechanisms within a country.

On the Earnings and Price Momentum Strategies: Evidence from European Real Estate Firms

We test the performance and interaction between earnings and price momentum for European real estate companies by first making use of decile portfolios sorted on the previous 3- to 12-month returns, standardized unexpected earnings and a combination of both. Then, the relation is tested on a risk-adjusted basis employing a 3-factor asset pricing model and Fama and Macbeth (1973) cross-sectional regression analyses. Our analyses reveal several critical findings: (1) both price and earnings momentum are effective for European firms, the effect being stronger for the UK than EU firms; (2) unlike U.S. REITs, price momentum seems to dominate drift for European firms; (3) there is weak evidence for positive interaction between drift and price momentum, contrary to the U.S. evidence; (4) the performance of momentum strategies depends on the state of the economy, while controlling for systematic factors; (5) idiosyncratic risk of real estate property firms may influence the returns on drift and momentum factors.

The Trend in Firm Profitability and the Cross-Section of Stock Returns

ABSTRACTThis study shows that the recent trajectory of a firm's profits predicts future profitability and stock returns. The predictive information contained in the trend of profitability is not subsumed by the level of profitability, earnings momentum, or other well-known determinants of stock returns. The profit trend also predicts the earnings surprise one quarter later, and analyst forecast errors over the following 12 months, suggesting that sophisticated investors underreact to the information in the profit trend. On the other hand, we find no evidence of investor overreaction, and our results cannot be explained by well-known risk factors.JEL Classifications: G12; G14.