Abstract

We examine whether the asymmetrical price response to bad and good earnings shocks changes as the relative level of the market changes. The study is based on a sample of 24,108 announcements of firms ’ annual earnings during the period 1988 to 1998. The level of the market is a relative measure based on the difference between the market P/E at the end of the announcement month and the average market P/E over the prior 12 months. Predictions based on behavioral finance models and extended regime-shifting models suggest that stock prices should respond more strongly to negative news as the relative market level rises. Similarly, prices should respond more strongly to good news in bad times, although the effect should be somewhat attenuated if the regime-shifting models are descriptively valid. The findings generally support these predictions.

Citations