What Drives Buybacks and Insider Trading?

In their recent paper entitled “Stock Market Anomalies: What Can We Learn from Repurchases and Insider Trading?”, John Core, Wayne Guay, Scott Richardson and Rodrigo Verdi investigate whether the operating accrual anomaly (investor overreaction to the volatile accrual component of earnings) and the post-earnings announcement drift anomaly (investor underreaction to surprising earnings announcements) drive corporate buyback and personal trading decisions of company officers. These insiders are best positioned to detect the emergence of such anomalies. Using data for the NYSE and AMEX over the period 1989-2001, they find that:

• A portfolio long firms reporting very low accruals and short firms reporting very high accruals generates an abnormal return of 4.27% in the six months after portfolio formation.
• A portfolio long firms reporting large positive earnings surprises and short firms reporting large negative earnings surprises generates an abnormal return of 5.97% in the six months after portfolio formation.
• Abnormal buyback and insider trading behaviors are consistent with the operating accruals trading strategy. Low (high) accruals firms repurchase more (less) shares, and managers of low (high) accruals firms buy more (less) shares on their personal accounts.
• Abnormal buyback and insider trading behaviors are not consistent with a post-earnings announcement drift trading strategy, perhaps due to the constraints on and sensitivity of trading around the times of earnings announcements.

In summary, the quality (more than the quantity) of emerging earnings moves corporate officers to adjust repurchasing and personal trading of company stock.

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