What is post-earnings-announcement drift, and what are possible causes for this phenomenon?
What will be an ideal response?
ANSWER:
Post-earnings-announcement drift refers to the fact that while markets do react significantly at the time of earnings announcements, it takes up to 60 days for the full effect to be reflected in security prices. One possible reason for post-earnings-announcement drift is that financial analysts underreact to very fundamental signals. This leads to forecast errors which, in turn, lead to incomplete security price adjustments. It is also possible that shareholders do not distinguish well between cash flow portions of earnings and the accrual portion. The cash flow portion persists longer into the future and is less subject to manipulation than the accrual part of earnings. Another possibility is that transaction costs are too high relative to the potential gain that can be earned from the mispricing of the securities. Securities markets may not be as efficient as we once believed.
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