Stock Returns, Aggregate Earnings Surprises, and Behavioural Finance - An Empirical Study on Indian Market

Abstract

This paper studies the stock market’s reaction to aggregate earnings news and better understand the relationship among earnings, stock prices, and discount rates Prior research shows that, for individual firms, stock prices react positively to earnings news but require several quarters to fully reflect the information in earnings. Our analysis shows that the market’s reaction to aggregate earnings is quite similar to its reaction to firm earnings. Taking all of the results together, we find some evidence that prices react slowly to aggregate earnings news. The evidence supports the recent behavioral finance theories which explain post-earnings announcement drift in firm level are also applicable at the aggregate level. The results also provide new evidence on the connections among prices, earnings, and discount rates. The autocorrelations among earnings suggest that relationship between the current earnings over its previous earnings is predominantly negative and past earnings have little power to predict future earnings. The analysis also shows that earnings are correlated with changes in proxies for discount rates. However, the limited data set available could bound the significance of the results.

Keywords: Aggregate earnings, stock prices, market reaction

JEL Classification: G02