Short-Term Price Continuation Anomalies

Relative to discount-rate effects, the cash-flow component of beta should dominate risk-based models of asset pricing. In principle, even weakly efficient markets should assimilate all publicly available information affecting a firm’s cash flow. But two forms of short-term price continuation persist: post-earnings announcement drift (PEAD) and momentum. Although both forms of drift have invited explanations rooted in behavioral finance, PEAD in particular is consistent with rational learning as a slow but thoroughly reasoned response to the ambiguous interpretation of corporate earnings and accruals. The durability of price continuation anomalies indicates the presence of liquidity constraints and other limits to arbitrage. Moreover, the possibility that earnings information may shed light on economy-wide discount rates as well as firm-specific cash-flow effects adds to the uncertainty surrounding this sort of information, which in turn reveals itself through the drift of prices from the levels that strict efficiency would otherwise predict.