Myopic Extrapolation, Price Momentum, and Price Reversal

50 Pages Posted: 4 Jul 2009 Last revised: 24 Aug 2022

See all articles by Long Chen

Long Chen

Cheung Kong Graduate School of Business; Luohan Academy

Claudia E. Moise

University of North Carolina (UNC) at Chapel Hill - Kenan-Flagler Business School

Xinlei Shelly Zhao

Government of the United States of America - Office of the Comptroller of the Currency (OCC) - Risk Analysis Division

Date Written: November 9, 2009

Abstract

We find that last-year's winners have lower expected returns than losers. However, this is followed by prior winners experiencing more positive earnings shocks than losers for at least two quarters after portfolio formation. After that time frame, the relative earnings shocks display the opposite pattern. If investors, when valuing securities, were to myopically extrapolate current earnings shocks as if they were long-lasting, then we would observe price momentum in the short run, followed by reversal in the long run. This hypothesis has two unique predictions: (i) current earnings shocks propel investors to myopically adjust forecasts on future cash flows, from short run to long run; and (ii) current earnings shocks and revisions to expected future cash flows dominate past returns in explaining price momentum and reversal. We find strong support for both predictions in the data.

Keywords: Momentum, reversal, analyst forecast, earnings, expected return, realized return

JEL Classification: G12, G14

Suggested Citation

Chen, Long and Chen, Long and Moise, Claudia E. and Zhao, Xinlei, Myopic Extrapolation, Price Momentum, and Price Reversal (November 9, 2009). Available at SSRN: https://ssrn.com/abstract=1429612 or http://dx.doi.org/10.2139/ssrn.1429612

Long Chen (Contact Author)

Cheung Kong Graduate School of Business ( email )

Oriental Plaza, Tower E3
One East Chang An Avenue
Beijing, 100738
China

Luohan Academy ( email )

No. 556, Xixi Road, Z Space
Xihu District
Hangzhou, Zhejiang 310013
China
+86-0571-2688-8888-75520 (Phone)

Claudia E. Moise

University of North Carolina (UNC) at Chapel Hill - Kenan-Flagler Business School ( email )

McColl Building
Chapel Hill, NC 27599-3490
United States

Xinlei Zhao

Government of the United States of America - Office of the Comptroller of the Currency (OCC) - Risk Analysis Division ( email )

400 7th Street SW
Washington, DC 20219
United States

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
836
Abstract Views
4,430
Rank
55,233
PlumX Metrics