Is overreaction/underreaction chosen by managers? Evidence from Greece Online publication date: Fri, 25-Jun-2021
by William Forbes; George Giannopoulos; Len Skerratt
International Journal of Financial Markets and Derivatives (IJFMD), Vol. 8, No. 2, 2021
Abstract: This paper models overreaction/underreaction as being the outcome of company managers' choices to manipulate earnings in response to perceived mispricing of their company. One of the more prominent attempts to reconcile observed short-term overreaction and consequent secular underreaction to earnings news interprets earnings announcements as 'selective' events. In financial markets events are 'selected' when contrived in response to perceived asset mispricing. We interpret earnings management by managers as a process requiring a selection of earnings in response to perceived mispricing of their corporation's stock. Post-earnings announcement drift is then interpreted as one consequence of this form of managerial choice. We devise and test a trading strategy, implemented at the earnings announcement date, based on the level of discretionary accruals in relation to past mispricing. The profitability of such a strategy is tested and conclusions for attempts to reconcile short-term overreaction with secular underreaction are drawn.
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