How Does Management Guidance Affect Investors' Responses to Earnings Announcements?

Abstract

We examine the causal effects of management earnings guidance on market reactions to earnings announcements by exploiting a regulatory change in China that shifted guidance preceding some earnings announcements from mandatory to voluntary. Following this policy shock, approximately 60% of affected firms immediately discontinued guidance. Using the regulatory shift to instrument for guidance, we find that providing guidance significantly increases abnormal trading volume around subsequent earnings announcements. However, the increased trading volume is associated with higher bid-ask spreads and return volatility, consistent with an increase in inventory costs from noise trading. These results are primarily driven by small and less visible firms. Overall, our findings suggest that guidance can attract noise traders who potentially decrease market quality for small firms.

Keywords: earnings announcements, market quality, investor attention, mandatory disclosure, management guidance