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Earnings Volatility, Post–Earnings Announcement Drift, and Trading Frictions

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  • SEAN SHUN CAO
  • GANAPATHI S. NARAYANAMOORTHY

Abstract

We find that lower ex ante earnings volatility leads to higher Post–Earnings Announcement Drift (PEAD). PEAD is a function of both the magnitude of an earnings surprise and its persistence. While prior research has largely investigated market reactions to the magnitude of the earnings surprise, in this study we show that the persistence of the earnings surprise is equally important. A unique feature of the anomalous PEAD returns documented here concerns the association between abnormal returns and trading frictions. Besides demonstrating that firms with lower earnings volatility have higher abnormal returns, we also find that lower earnings volatility firms have lower trading frictions. Taken together, these findings imply that higher abnormal returns are associated with lower trading frictions. We exploit this implication to empirically demonstrate that PEAD returns due to earnings volatility are not concentrated in the firms with the largest trading frictions, which is in contrast to the findings in prior anomaly studies.

Suggested Citation

  • Sean Shun Cao & Ganapathi S. Narayanamoorthy, 2012. "Earnings Volatility, Post–Earnings Announcement Drift, and Trading Frictions," Journal of Accounting Research, Wiley Blackwell, vol. 50(1), pages 41-74, March.
    • Handle: RePEc:bla:joares:v:50:y:2012:i:1:p:41-74
    DOI: 10.1111/j.1475-679X.2011.00425.x
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    3. Goh, Jihoon & Jeon, Byoung-Hyun, 2017. "Post-earnings-announcement-drift and 52-week high: Evidence from Korea," Pacific-Basin Finance Journal, Elsevier, vol. 44(C), pages 150-159.
    4. Alexander Barinov & Shawn Saeyeul Park & Çelim Yıldızhan, 2024. "Firm complexity and post-earnings announcement drift," Review of Accounting Studies, Springer, vol. 29(1), pages 527-579, March.
    5. He, Shuoyuan & Narayanamoorthy, Ganapathi (Gans), 2020. "Earnings acceleration and stock returns," Journal of Accounting and Economics, Elsevier, vol. 69(1).
    6. Heejeong Shin & Su-In Kim & Sorah Park & Hyejeong Shin, 2019. "The effect of Industry Homogeneity on the Magnitude of Post- earnings Announcement Drift: Evidence from Korea," Asian Academy of Management Journal of Accounting and Finance (AAMJAF), Penerbit Universiti Sains Malaysia, vol. 15(1), pages 107-127.
    7. Nick Guest & S. P. Kothari & Eric So, 2023. "Flight to Earnings: The Role of Earnings in Periods of Capital Scarcity," Management Science, INFORMS, vol. 69(8), pages 4908-4931, August.
    8. Jacob Thomas & Frank Zhang & Wei Zhu, 2021. "Dark Trading and Post-Earnings-Announcement Drift," Management Science, INFORMS, vol. 67(12), pages 7785-7811, December.
    9. Baker, H. Kent & Ni, Yang & Saadi, Samir & Zhu, Hui, 2019. "Competitive earnings news and post-earnings announcement drift," International Review of Financial Analysis, Elsevier, vol. 63(C), pages 331-343.
    10. Zhang, Sijia & Gregoriou, Andros, 2020. "Post earnings announcement drift, liquidity and zero leverage firms: Evidence from the UK stock market," Journal of Business Research, Elsevier, vol. 116(C), pages 13-26.
    11. Heejeong Shin & Hyejeong Shin & Su-In Kim, 2019. "The Market Sentiment Trend, Investor Inertia, and Post-Earnings Announcement Drift: Evidence from Korea’s Stock Market," Sustainability, MDPI, vol. 11(18), pages 1-19, September.

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