Most financial analysts will agree that managers often have an informational advantage. This advantage can lead to a number of decisions like when an executive decides to dump company shares prior to a poor company update or when a company announces a buyback to boost share prices after a bad quarter. In fact, the latter seems to be a common occurrence.
Shahram Amini and Vijay Singal from Virginia Tech propose that managers use their information edge to time corporate actions close to quarterly announcements in order to maximize shareholder value. Their whitepaper, "Are Earnings Predictable?", examines the effects of share buybacks and issues surrounding an earnings announcement. The study documents consistent positive abnormal returns for earnings announcements following buyback announcements with similarly negative abnormal returns for share issues regardless of the earnings themselves. This is quite surprising because it indicates that "that the market adjustment to corporate actions is incomplete, and can result in predictability of earnings announcements."
The academic paper states that it is generally accepted that managers
have more information about the firm than investors. Given this
information asymmetry, managers can make informed decisions about
corporate actions such as equity offerings or repurchases. The
announcement of stock repurchase or secondary equity offering is
voluntary and can be easily moved by a few weeks or months. Therefore
the timing of SEO or repurchase announcement before earnings
announcement could be perceived as important information about future
performance of stock during earnings announcement period.
In order to validate the authors' research, my notebook (view the notebook to see a walkthrough of the whitepaper) attempts an OOS implementation of the methods used in the whitepaper. I examine share buybacks and earnings announcements from 2011 till 2016 finding similar results to the authors with positive returns of 1.115% in a (-10, +15) day window surrounding earnings. Using these results, the folks at Quantpedia and I attempted to craft an example trading strategy that would profit off the positive market reaction that seems to follow earnings reports made after a buyback announcement.
Trading Strategy Details
Looking at a universe of the top 2,000 most liquid securities, the algorithm filters for securities that have announced a buyback [-15, 0] days before an earnings announcements and goes long on that security for either 25 days or 15 days after the earnings (whichever comes first).
What is the Quantpedia Trading Strategy Series?
Quantpedia is an online resource for discovering trading strategies and we’ve teamed up with them to bring you interactive and high quality trading strategy examples based off financial research. Our goal is that you’re able to replicate the process we’ve used here for your own research and backtesting.
This is a high beta strategy! Why are you posting a strategy that’s long-only?
This series is meant to bring you high quality research and trading strategy examples. We plan to release long short, low-beta strategies in the future. For this specific strategy, the share issuance dataset would’ve been needed to create the short portfolio but a possible substitute would be to use negative earnings surprises as the short portfolio for this strategy.
Where can I find more trading strategy ideas?
You can find the full Quantpedia Series here along with other curated pieces of research. Other than that, you can browse Quantpedia’s strategies or look through our forums for ideas posted by community members. Want to feature your own? Submit your proposal to SLEE @ quantopian.com
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|Sortino||1 Month||3 Month||6 Month||12 Month|
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