The Earnings Announcement Return Cycle

Abstract

Stocks earn negative abnormal returns before earnings announcements and positive after them. Analysts' forecasts, recommendations, and target prices follow the same pattern: analysts start optimistic after earnings announcements but grow pessimistic as the next ones draw near. Analysts' optimism appears to drive the high returns early in the cycle and firms' disclosures of bad news cause both the low returns and analysts' pessimism late in the cycle. The tug of war between analysts and firms significantly affects anomaly profits: strategies that trade for or against contrarian anomalies depending on where the firms are relative to announcing their earnings earn as large alphas as the original anomalies—despite being unconditionally anomaly neutral.