Earnings Announcements and Systematic Risk
Pavel G. Savor
Fox School of Business - Temple University
Mungo Ivor Wilson
University of Oxford - Said Business School
December 6, 2013
AFA 2012 Chicago Meetings Paper
Firms enjoy high returns at times when they are scheduled to report earnings. A simple strategy that buys all announcers and short sells all other stocks earns an annualized return of 9.9%, with a Sharpe ratio that is significantly higher than that of value and momentum strategies. Standard pricing models cannot explain this performance, with the strategy's abnormal return typically almost equal to its raw return. We propose a risk-based explanation for this phenomenon, in which investors use announcements to revise their earnings expectations for non-announcing firms, but can only do so imperfectly. Consequently, the covariance between firm-specific and market cash-flow news spikes around announcements, making announcers especially risky. Consistent with our hypothesis, we find that returns of earnings announcers robustly predict aggregate earnings growth. Furthermore, non-announcing firms respond to announcements in a manner consistent with our model, both across time and cross-sectionally. We also show that the announcement premium is extremely persistent across stocks, and that early (late) announcers earn higher (lower) returns. Finally, exposure to earnings announcement risk is priced in the cross-section, and the inclusion of the announcement portfolio as a factor reduces pricing errors for almost all of our 55 test portfolios.
Number of Pages in PDF File: 85
JEL Classification: Asset Pricing, Risk Premia, Earnings, Announcementsworking papers series
Date posted: March 17, 2011 ; Last revised: December 6, 2013
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