The Post-Earnings-Announcement Drift and Liquidity Risk
41 Pages Posted: 19 Jan 2004
Date Written: June 7, 2004
Abstract
This paper investigates the relation between the post-earnings-announcement drift anomaly and liquidity. First, we find that, on average, bad-news firms (low standardized unexpected earnings (SUE)) are less liquid than good-news firms (high SUE), reflecting more information asymmetry and/or uncertainty among bad-news firms. Yet, we argue that this liquidity spread is less likely to explain the drift. Second, the returns of SUE-sorted portfolios are sensitive to fluctuations in market-wide liquidity. We find that systematic liquidity risk is an important determinant in explaining the cross-sectional variation of expected returns among SUE-sorted portfolios. This implies that a substantial part of the post-earnings-announcement drift anomaly can be viewed as compensation for risk associated with shocks to the information environment in the economy. Therefore, the evidence suggests that the previously reported anomalous returns are associated with model misspecification and/or hidden transaction costs.
Keywords: Post-Earnings-Announcement Drift, Liquidity Risk, Market Efficiency, Asset Pricing, SUE, Information Uncertainty
JEL Classification: G12, G14, M41
Suggested Citation: Suggested Citation
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