Is there overreaction?

Question 1

DeBondt and Thaler 1985

Answer 1

“DeBondt and Thaler (1985) identify “losers” as stocks that have had poor returns over the past three to five years. “Winners” are those stocks that had high returns over a similar period. The main result of DeBondt and Thaler is that losers have much higher average returns than winners over the next three to five years.”

Question 2

Seyhun 1990

Answer 2

• This paper shows that
• i) the Crash was a surprise to corporate insiders;
• ii) insiders became buyers of stock in record numbers immediately following the Crash;
• iii) stocks that declined more during the Crash were also purchased more by insiders; and
• iv) stocks that were purchased more extensively by insiders during October 1987 showed larger positive returns in 1988.
• The overall evidence suggests that overreaction was an important part of the Cras

Question 3

Ball, Kothari and Shanken 1995

Answer 3

• We document problems in measuring raw and abnormal five-year contrarian portfolio returns.
• “Loser” stocks are low-priced and exhibit skewed return distributions.
• Their 163% mean return is due largely to their lowest-price quartile position. A $1/8th price increase reduces the mean by 25%, highlighting their sensitivity to micro-structure/liquidity effects.
• Long positions in low-priced loser stocks occur disproportionately after bear markets and thus induce expected-return effects.
• A contrarian portfolio formed at June-end earns negative abnormal returns, in contrast with the December-end portfolio.

Question 4

La Porta 1996

Answer 4

• Value stocks may earn high returns because they are more risky. Alternatively, systematic errors in expectations may explain the high returns earned by value stocks.
• I test for the existence of systematic errors using survey data on forecasts by stock market analysts.
• I show that investment strategies that seek to exploit errors in analysts’ forecasts earn superior returns because expectations about future growth in earnings are too extreme.

Question 5

La Port, Lakonishok, Shleifer and Vishny 1997

Answer 5

• This article examines the hypothesis that the superior return to so-called value stocks is the result of expectational errors made by investors.
• We study stock price reactions around earnings announcements for value and glamour stocks over a 5-year period after portfolio formation.
• The announcement returns suggest that a significant portion of the return difference between value and glamour stocks is attributable to earnings surprises that are systematically more positive for value stocks.

Question 6

Rozeff and Zaman 1998

Answer 6

• Insider transactions are not random across growth and value stocks.
• We find that insider buying climbs as stocks change from growth to value categories. Insider buying also is greater after low stock returns, and lower after high stock returns.
• These findings are consistent with a version of overreaction which says that prices of value stocks tend to lie below fundamental values, and prices of growth stocks tend to lie above fundamental values.