Convex value functions and investors’ interpretation of earnings news: Exploring information integration as a market friction
Prof. Guochang Zhang
Chung Hon-Dak Professor in Accounting
University of Hong Kong
Date: 18 November 2024 (Monday)
Time: 14:30 to 16:00
Venue: E22-G008
Host: Prof. Duncan Jiancheng LIU, Assistant Professor in Accounting
Abstract
Blankespoor et al. (2020) categorize information processing into three key stages: awareness, acquisition, and integration. This study delves into the role of information integration in hindering the assimilation of earnings news into stock prices. According to Zhang’s (2000) valuation model, equity value is a convex function of earnings, with the degree of convexity determined by a firm’s investment opportunities. Based on quarterly earnings announcements of US firms over the period 1980-2020, we find that investors display little ability to capture the effect of valuation convexity in the initial days around the earnings announcement. Afterwards, stock prices of firms with high versus low convexity gradually diverge in ways consistent with theoretical predictions, with the process extending into several quarters. The alignment with theoretical expectations occurs more quickly for larger firms, more analysts following, or higher institutional holdings, and for earnings announcements made on busy days, indicating that investor knowledge and attention accelerate the speed of information integration. Additionally, we analyze bond price reactions to earnings news, observing similar price adjustments to valuation convexity for negative earnings news but not for positive news, reflecting the asymmetric nature of bond payoffs. This study offers new evidence on information integration as a market friction.
Speaker
Prof. Guochang Zhang is Chung Hon-Dak Professor in Accounting at the University of Hong Kong. He previously held academic positions at the Hong Kong University of Science and Technology and The University of Waterloo, Canada. He received a Bachelor degree (Engineering) from Shanghai Jiaotong University, and an MSc (Accounting) and a PhD (Finance) from the University of British Columbia. He has published papers in top academic journals including The Accounting Review, Journal of Accounting and Economics, Journal of Accounting Research, Contemporary Accounting Research, Review of Accounting Studies, and Management Science. His monograph “Accounting Information and Equity Valuation: Theory, Evidence, and Applications” has been used as teaching materials in doctoral and master programs. He has served as an Associate Editor of European Accounting Review, and a member of the Financial Reporting Standards Committee of the Hong Kong Institute of Certified Public Accountants. He is a fellow of Accounting and Economics Society.
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