Standardized Unexpected Earnings Research Articles

A Collection of Wisdom in Predicting Sector Returns: The Use of Google Search Volume Index

This study investigates whether the aggregate investor information demand for all stocks in a sector demonstrated in the Google search volume index (SVI) can predict the sector’s performance. The evidence shows that a sector’s abnormal SVI can predict the sector’s performance next month, even after controlling for the sector’s contemporaneous standardized unexpected earnings and lagged returns on both the market and the sector. Also found is a partial reversal in the sector’s long-run performance that is not completely consistent with the price pressure hypothesis. This indicates that some fundamental information about a sector can be captured by the sector’s abnormal SVI on a timely basis.

Impact of human resource characteristics of internal accounting system on post-earnings announcement drift: Evidence from Korea

When companies invest in their internal accounting personnel, investors place greater trust in disclosed earnings information and highly regard a company’s information transparency. This results in prompt investment decisions regarding the company. Consequently, earnings information will be immediately reflected in stock prices, thereby reducing stock price drift. The purpose of this study is to examine the impact of investments in establishing and operating internal accounting systems on investors’ responses to the mitigation of stock price drift. The study focused on firms listed on the Korea Exchange from 2011 to 2018 and constructed a regression model using the cumulative abnormal return following earnings disclosure dates for 30, 60, and 120 days as the dependent variable, with the characteristics of internal accounting personnel as independent variables. The analysis reveals that companies with many internal accounting personnel and position experts, such as accountants, within their internal accounting control systems, experience a significantly lower stock price drift. The coefficients of the interaction terms between internal accounting personnel characteristics and standardized unexpected earnings are positive and significant at the 1% level for all cumulative abnormal return values. The findings of the study indicate that as efficiency is secured, stemming from the scale of personnel managing internal accounting control systems and their expertise, market investors’ understanding and trust of accounting information also increase. Investors, as information users, react promptly to the earnings information disclosed by the company, leading to a decrease in stock price drift. AcknowledgmentsThis work was supported by the Ministry of Education of the Republic of Korea and the National Research Foundation of Korea (NRF-2021S1A5A8070518).

PEAD.txt: Post-Earnings-Announcement Drift Using Text

AbstractWe construct a new numerical measure of earnings announcement surprises, standardized unexpected earnings call text (SUE.txt), that does not explicitly incorporate the reported earnings value. SUE.txt generates a text-based post-earnings-announcement drift (PEAD.txt) larger than the classic PEAD. The magnitude of PEAD.txt is considerable even in recent years when the classic PEAD is close to 0. We explore our text-based empirical model to show that the calls’ news content is about details behind the earnings number and the fundamentals of the firm.

Sports Mood Index, institutional investors, and earnings announcement anomalies

I construct the Sports Mood Index (SMI) of 49 metropolitan areas in the U.S. and Canada based on the performance of Big 4 professional sports teams and build the firm-level SMI based on institutional investors’ holdings as a proxy for investors’ mood. In sports-induced bad mood settings, earnings announcement premium becomes higher because of increased uncertainty avoidance premium, and post-earnings-announcement drift (PEAD) becomes lower because of the reversal effect. A one-standard-deviation increase in the SMI leads to a 22 bps increase in earnings announcement premium and a 16 bps decrease in PEAD in the following week. Whereas sports-induced good mood has no significant impact on the trading behavior of institutional investors, sports-induced bad mood leads to inattention. Institutional investors with sports-induced bad mood underreact to standardized unexpected earnings when faced with both positive and negative news, as evidenced by lower abnormal trading volume around earnings announcement days.

A new measure of financial texts’ readability

We define and construct the ‘semantic complexity index’ (SCI) which captures the marginal contribution of multi-clausal phrases (e.g., ‘slowdown in business activity’); and adjectives, adverbs and adversative conjunctions (e.g., ‘greater’, ‘slightly’, ‘however’) which alter the connotation of financial texts. More semantic complexity makes text difficult to interpret, which leads to poor readability, increased ambiguity and more investor uncertainty. We show that during 1994-2018, yearly SCIs of US firms' MD&A section display significantly positive association with firms' subsequent volatility and standardized unexpected earnings. We find that firms downplay negative information and exaggerate positive information, but markets react to such firms by associating higher subsequent volatility to them. We also show that the SEC Plain English Rule (October 1998) has reduced the semantic complexity of US firms' 10-Ks, and hence has improved readability observations at odds with other popular readability metrics.

PEAD.txt: Post-Earnings-Announcement Drift Using Text

We construct a new numerical measure of earnings announcement surprises, standardized unexpected earnings call text (SUE.txt), that does not explicitly incorporate the reported earnings value. SUE.txt generates a text-based post-earnings announcement drift (PEAD.txt) larger than the classic PEAD and can be used to create a profitable trading strategy. Leveraging the prediction model underlying SUE.txt, we propose new tools to study the news content of text: paragraph-level SUE.txt and paragraph classification scheme based on the business curriculum. With these tools, we document many asymmetries in the distribution of news across content types, demonstrating that earnings calls contain a wide range of news about firms and their environment

Currency fluctuations and the post-earnings announcement drift

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.

Tick Size Tolls: Can a Trading Slowdown Improve Earnings News Discovery?

ABSTRACT This study examines how an increase in tick size affects algorithmic trading (AT), fundamental information acquisition (FIA), and the price discovery process around earnings announcements (EAs). Leveraging the SEC's randomized Tick Size Pilot experiment, we show that a tick size increase results in a decline in AT and a sharp drop in absolute cumulative abnormal returns and volume around EAs. More importantly, we find increased FIA in the preannouncement period. Specifically, we show: (1) treatment firms' pre-announcement returns better anticipate next quarter's standardized unexpected earnings; (2) these firms experience an increase in EDGAR web traffic prior to EAs; and (3) they exhibit a drop in price synchronicity with index returns. Taken together, our evidence suggests that while an increase in tick size reduces AT and abnormal market reaction after EAs, it also increases FIA activities prior to EAs. JEL Classifications: M40; M41; G12; G14.

Post-Earnings-Announcement Drift: Expected Growth Risk or Limits-to-Arbitrage?

To explain post-earnings-announcement drift (PEAD), we suggest expected growth risk, which is measured as covariance between stock returns and expected future real GDP growth rates. We find that both expected growth rates and expected growth risk increase with standardized unexpected earnings, and expected growth risk is significantly priced in the cross-section of returns. The model including expected growth risk alone explains PEAD satisfactorily. We also find that after adjustment for expected growth risk, the systematic relation of PEAD with the degree of limits-to-arbitrage disappears. This indicates that the empirical evidence supporting the mispricing hypothesis due to limits-to-arbitrage is a consequence of the failure in incorporating appropriate risk and the drift is a manifestation of expected growth risk.

Earnings management and post-split drift

Abstract This paper explores whether firms manage their earnings after stock splits to meet the raised expectations from the market due to the positive signal sent by the splits. We first document that post-split drift mainly exists in the first three months and is positively associated with post-split standardized unexpected earnings (SUE). However, the higher post-split SUE of split firms is associated with higher discretionary accruals and abnormally lower R&D expenses. This result is consistent with our hypothesis that split firms overstate their post-split earnings by manipulating accruals and reducing R&D spending. Moreover, post-split abnormal returns increase with discretionary accruals and R&D reduction for about six months and tend to reverse over longer horizons, especially for firms with negative pre-split SUE. Overall, our results indicate that the post-split drift is a short-term phenomenon and partly attributable to the earnings management after the splits.

Price delay and post-earnings announcement drift anomalies: The role of option-implied betas

In this study, we used informational advantage in the options market to investigate whether the option-implied equity risk developed by Chen, Chung, and Tsai (2016) - viewed as a type of time-varying beta - can help explain both the Hou and Moskowitz (2005) price delay premium and post-earnings announcement drift (PEAD). Our empirical results revealed a clear association between quintile portfolios with greater price delay premiums and higher option-implied betas, while the Fama-MacBeth regressions showed that the implied betas are positively related to future delay-based portfolio returns. Regarding the PEAD, we discerned a general increase in the mean of portfolio option-implied betas with standardized unexpected earnings portfolio drift. Our regression results support the notion that a portfolio’s PEAD can be viewed as compensation for the variations in option-implied betas.

The Strategic Responses from Sophisticated Investors to Inaccurate Forecast of Financial Analysts

We examine whether there are more information based trading activities that are generated around the time of earnings announcements. We distinguish between the influence of information based traders, especially short sellers, and market information quality through the reaction of participants to new information derived from corporate earnings announcements. We find that informed traders do take advantage of overpriced stocks, and do short stocks before the confirmation of past expectations of future cash flows from corporates. We apply Standardized Unexpected Earnings (SUE) in the method and our result indicates that informed traders are more likely to take advantage of overpriced stocks, using a tool (shorting) that is not traditionally used by unsophisticated investors. We also demonstrate an unique finding that informed traders follow stock analysts not for investing advice, but to take advantage of those unsophisticated investors that buy in to the rhetoric expressed by financial analysts.

Is Limited Attention Universal? Evidence from Surprising Earnings News among Economically Linked Firms

The authors examine investors’ limited attention to surprising earnings news among economically linked firms. They do not find evidence of investors’ attention constraints on supplier firms after the announcement of customer firms’ surprising earnings news. Abnormal returns of supplier firms at the announcement of customer firms’ negative (positive) standardized unexpected earnings (SUE) are negative (positive) and significant, and cumulative abnormal returns (CAR) from day 1 to day 10 become insignificant. They also document that information uncertainty delays the diffusion of information between economically linked firms. Thus, the notion of limited attention is not a universal phenomenon, but it is subject to the nature of both the news and the parties involved.

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.

From ‘Vas ist Das?’ to ‘100 Anomalies’: A Review of Methodology

This paper endeavors to provide a review of methodology employed for studying four major anomalies over time – size effect, value effect, liquidity effect and standardized unexpected earnings (SUE) effect. First, the paper synthesizes a list of measures that have been employed to proxy each anomaly. Next, the asset pricing or other forms of models employed to study these anomalies have been summarized. Different ways in which returns have been measured forms the next heading. Finally, owing to the argument that poorly defined model components could also lead to evidence of anomalies, how literature has dealt various model components also forms the topic of discussion. The paper contributes to the body of literature by summarizing a substantial number of papers at one place, covering possibly all facets of stock market anomalies. However, the field is so vast that this review can by no means be considered exhaustive.

Are Capital Market Anomalies Common to Equity and Corporate Bond Markets? An Empirical Investigation

Corporate bond returns exhibit predictability in a manner consistent with efficient pricing. Many equity characteristics, such as accruals, standardized unexpected earnings, and idiosyncratic volatility, do not impact bond returns. Profitability and asset growth are negatively related to corporate bond returns. Because firms that are profitable or have high asset growth (and hence more collateral) should be less risky, with lower required returns, the evidence accords with the risk–reward paradigm. Past equity returns are positively related to bond returns, indicating that equities lead bonds. Cross-sectional bond return predictors generally do not provide materially high Sharpe ratios after accounting for trading costs.

Value & Growth Investing e Pead PEAD no Brasil

Este trabalho investiga se o post-earnings announcement drift (PEAD), quando utilizado como critério adicional de seleção de ações, pode aprimorar o retorno de estratégias de investimento baseadas na análise de indicadores fundamentalista no mercado brasileiro. O PEAD foi explorado por meio da análise das surpresas nos lucros, capturada pelo SUE (standardized unexpected earnings) e os modelos de score fundamentalistas utilizados foram o F_Score (Piotroski, 2000) e o G_Score (Mohanran, 2005), que, adaptados neste trabalho, foram chamados de BrF_Score e BrG_Score. Para a análise foram coletados dados trimestrais das empresas listadas na Bovespa, no período de dezembro de 2001 até novembro de 2011. Os resultados demonstraram que a análise da surpresa de lucros quando conjugada com a análise de critérios fundamentalistas, é útil para aprimorar os modelos de seleção de ações e ampliar os retornos dos investidores que utilizam estas estratégias baseadas na análise das demonstrações contábeis.

The puzzling behavior of short sellers around earnings announcements

Abstract We examine the performance of ‘predictive’ and ‘reactive’ short sellers who take relatively large short positions immediately before and after quarterly earnings announcements, respectively. While both types short into advancing markets, it is surprising for reactive shorts since their trades are in stocks that just announced unexpected good news and thus, according to the post-earnings announcement drift anomaly, will subsequently have abnormally high cumulative returns. Nevertheless, we find that for both types of short sellers: (1) subsequent cumulative returns are significantly negatively related to the amount of abnormal short selling, suggesting they are informed, and (2) relative to non-earnings dates, the subsequent returns around earnings announcements are significantly more negative, indicating they appear to be adept at exploiting earnings announcements. Surprisingly, we find that the subsequent returns of reactive short sellers are significantly greater than those of predictive short sellers except for S&P 500 stocks, perhaps due to their greater analyst following. Importantly, we are left with two puzzles. First, reactive shorts would have significantly improved their performance had they based their trades on the size of standardized unexpected earnings (‘SUE’). Second, predictive shorts of Micro stocks would have significantly improved their performance had they simply waited until earnings were announced and then based their trades on SUE.

New return anomalies and new-Keynesian ICAPM

I propose a new multi-factor asset pricing model with new-Keynesian factors to explain stock return anomalies from 1972Q1 to 2009Q2. This new model explains the average returns across testing portfolios formed on financial distress, momentum, and standardized unexpected earnings with misspecification-robust statistics. Test portfolios formed on net stock issues and total accruals are also partly explained by new-Keynesian factors. Two monetary policy factors play an important role in explaining these new anomalies. The credit aspect of these new anomalies suggests an economic rationale for the model through capital market imperfections and the credit channel of monetary policy mechanism.

Are good-news firms riskier than bad-news firms?

This paper examines the relative risk of good-news firms, i.e., those with high standardized unexpected earnings (SUE), and bad-news (low SUE) firms using a stochastic discount factor approach. We find that a stochastic discount factor constructed from a set of basis assets helps explain post-earnings-announcement drift (PEAD). The risk exposures on the pricing kernel increase monotonically from the lowest to highest SUE sorted portfolios. Specifically, good-news firms always have higher risk exposures than bad-news firms in both 10 SUE sorted portfolios and 25 size and SUE sorted portfolios. However, the estimated expected risk premium is too small to explain the observed magnitude of returns on the PEAD strategy. Our risk adjustment can explain only about one-fourth of the total magnitude of the average realized return to the PEAD strategy. As a result, the average risk-adjusted returns of earnings momentum strategies are mostly positive and significant. Overall, our results support the view that at least some portion of the returns to the earnings momentum strategies examined represent compensation for bearing increased risk.