Is trading on earnings surprises a profitable strategy? : evidence from the S&P 500 stock index

Abstract

This study examines the profitability and viability of the trading strategy which is based on trading on the premise of earnings surprises in the post earnings announcement period for stocks of companies forming part of the S&P 500 Stock Index. Earnings surprises being defined as the Standardized Unexpected Earnings based on Analysist Forecasts (SUEAF) and is the principal earnings surprise measure. Analysists have identified a clear pattern that stock prices often drift in the direction of a surprise, be it an upward trend following earnings beat or a downward trend following an earnings miss. This is referred to as the post earnings announcement drift and analysts also believe this drift in prices has an average period of fourteen to sixty days. This study additionally takes under consideration the implication of positive and negative earnings surprises alongside the implication of firm size. This study simultaneously examines the Pre - Earnings Announcement Drift and the link this drift holds with asymmetric information and insider trading. The data required to analyse the profitability of trading on a post earnings announcement surprise involves the actual and estimate Earnings Per Share (EPS), the surprise percentage as well as the call price two weeks prior to a given earnings call date for selected stocks of companies forming part of the S&P 500 stock Index and the given call price for the respective stocks fourteen days later. This data will be gathered from Thompson Reuters Eikon & I/B/E/S and will be processed through EViews 11 SV and an empirical analysis. I wish to achieve a significant and notable pattern illustrating and substantiating the notion that the Post Earnings Announcement Drift poses as a profitable trading strategy which hence may lead to considerable investment implications since such a strategy will leave institutional and retail investors with a particular opportunity to exploit such an anomaly.