The Party's Over: The Role of Earnings Guidance in Resolving Sentiment-Driven Overvaluation

Management Science 58: 308-319

27 Pages Posted: 5 May 2011 Last revised: 9 Jul 2014

See all articles by Nicholas Seybert

Nicholas Seybert

University of Maryland - Department of Accounting & Information Assurance

Holly Yang

Singapore Management University - School of Accountancy

Multiple version iconThere are 2 versions of this paper

Date Written: February 2012

Abstract

This paper shows that an important link between investor sentiment and firm overvaluation is optimistic earnings expectations, and that management earnings guidance aids in resolving sentiment-driven overvaluation. Using the firm characteristics identified by Baker and Wurgler (2006), we find that most of the negative returns to uncertain firms in months following high sentiment periods fall within the three-day window around management earnings guidance issuance. Comparisons of guidance months to non-guidance months show that guidance issuance affects the magnitude and not just the daily distribution of negative returns. There is also some evidence of negative returns around earnings announcements for firms that previously issued guidance, suggesting that guidance does not entirely correct optimistic earnings expectations. To provide additional insight into the strength of the guidance effect, we show that the market reacts more strongly to surprises and particularly negative surprises following high sentiment periods. Finally, firms with higher transient institutional ownership are less likely to guide and their guidance is less likely to contain bad news following high sentiment periods, indicating that managers with a short-term focus are hesitant to correct optimistic market expectations.

Keywords: earnings guidance, investor sentiment, overvaluation, market efficiency, managers, disclosure

JEL Classification: G10, G14, M10, M41

Suggested Citation

Seybert, Nicholas and Yang, Holly, The Party's Over: The Role of Earnings Guidance in Resolving Sentiment-Driven Overvaluation (February 2012). Management Science 58: 308-319, Available at SSRN: https://ssrn.com/abstract=1830414

Nicholas Seybert (Contact Author)

University of Maryland - Department of Accounting & Information Assurance ( email )

Robert H. Smith School of Business
College Park, MD 20742-9157
United States

Holly Yang

Singapore Management University - School of Accountancy ( email )

60 Stamford Road
Singapore 178900
Singapore

HOME PAGE: http://sites.google.com/site/holly0417phd/

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