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Contrast effects in reactions to earnings announcements
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School of Business |
Master's thesis
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en
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44 + 6
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Abstract
Contrast effect is a behavioral error, where a related prior observation has an inverse effect on the
perception of the following one. New evidence in financial literature shows that the effect has potential
to induce short-term mispricing when investors contrast consecutive pieces of earnings announcement
news on one another. The purpose of this paper is to revisit the topic and to study the effect by
employing a new set of data consisting of large publicly listed U.S. companies in the 21st century.
The results presented in this paper are inconclusive and to an extent contradicting with prior
literature. The results of the full-sample OLS regressions show no evidence of a contrast effect between
any proxy for a salient earnings surprise and the short term returns of firms announcing their earnings
the following day. However, splitting the sample into subsamples based on business cycles shows that,
during the longest continuous economic expansion period from 2009 to 2020, the contrast effect is
economically and statistically significant, albeit not robust to the inclusion of year-month fixed effects.
During this period, the mispricing persists for up to five trading days, and is driven by consecutive
announcements by firms in the top NYSE size decile.