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Companies with poor earnings revisions tended to have more volatile returns, as market participants reacted negatively to companies with downward revision in estimates, said a study by S&P Dow Jones.
A study by Utkarsh Agrawal, Associate Director, and Priscilla Luk, Managing Director, S&P Dow Jones Indices, found that market participants tended to penalise stocks with poor earnings revisions more when the market was in a downward trend.
In the research paper, the global index major analysed the earnings revision strategies across seven pan-Asian markets — Australia, China, Hong Kong, India, Japan, South Korea and Taiwan — between December 31, 2005, and December 31, 2016.
Revision strategies helpEarnings revision strategies delivered the most significant excess returns in South Korea, India and Taiwan but failed to work in Japan, the study found.
Another interesting finding is that market participants generally had stronger reactions to the net percentage of upward and downward revisions in earnings estimates rather than the percentage change of the consensus estimate figures. The study was based on companies domiciled in each market from their respective indices with at least three analyst estimates.
The study further said earnings revision strategies tended to generate more alpha in the small-cap universe than in the large- and mid-cap universe, although there was no strong sector or size bias.
Alternative methodSimilar to momentum strategies, earnings revision strategies had high portfolio turnover. “Implementing this strategy in a combination with other fundamental factors to lower the turnover may be more practical than implementing it as a single-factor strategy,” the analysts said.
According to them, excess returns from the portfolios became much less pronounced and lost significance when the portfolios were weighted by market cap. “An alternative weighting method to strengthen the earnings revision signals would be essential to capture the alpha of the earnings revision strategies,” they said.
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