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Price and earnings momentum: An explanation using return decomposition

journal contribution
posted on 2014-09-01, 00:00 authored by Mike MaoMike Mao, K C J Wei
We explain price and earnings momentum by investigating dynamics of cash flow (CF) news and discount rate (DR) news. We find that before the holding period, winners experience higher DR news than losers, which makes winners display lower ex-ante expected returns than losers. Momentum returns come from the persistently higher CF news for winners as compared to losers both before and during the holding periods. The evidence favors a behavioral explanation that the market incorporates cash flow information too slowly, which drives momentum returns. In addition, we find that the DR news, in particular that of the momentum losers, drives the time-series profitability of momentum strategies. Furthermore, by comparing price momentum with earnings momentum, we show that the relative load on past CF news as compared to past DR news affects long-run portfolio performance.

History

Journal

Journal of Empirical Finance

Volume

28

Pagination

332 - 351

ISSN

0927-5398

Publication classification

C1.1 Refereed article in a scholarly journal; C Journal article

Copyright notice

2014, Elsevier B.V.