Can investors exploit stock repurchase and issuance activity to predict market reaction to the next firm earnings release? In the May 2015 version of their paper entitled “Are Earnings Predictable?”, Shahram Amini and Vijay Singal test whether firm executives take advantage of superior information to time repurchases (issuances) of stock just before unexpectedly good (bad) earnings announcements. They focus on firms announcing repurchases of at least 5% and prices for sales of at least 10% of outstanding shares within 16 to 30 trading days before or after earnings releases. Using stock prices for 891 (1,072) repurchase announcements and 1,415 (1,604) issuance price announcements within 16 to 30 days before (after) earnings releases during 1987 through 2013, they find that:
- Consistent with prior research, the average stock return from announcement day through the next 15 trading days is 4.8% (2.1%) after repurchase announcements (issuance pricing announcements). The corresponding four-factor alpha (accounting for market, size, book-to-market and momentum factors) is a significant 3.9% (-1.8%).
- For earnings releases within 16 to 30 days before (after) repurchase announcements:
- The average stock return from release day through the next 15 trading days is -3.8% (+4.0%), corresponding to a four-factor alpha of -3.0% (+2.5%).
- Results suggest that earnings releases before repurchase announcements tend to be surprisingly bad (depressing stock price), and those after surprisingly good.
- For earnings releases within 16 to 30 days before (after) issuance pricing announcements:
- The average stock return from release day through the next 15 trading days is +2.6% (+0.5%), corresponding to a four-factor alpha of -2.1% (-3.1%).
- Results suggest that earnings releases before issuance pricing announcements tend to be relatively good (supporting stock price), and those after relatively bad.
- Results are somewhat weaker for: firms announcing smaller repurchases and issuance pricings; larger firms; and, a subsample since 2000.
In summary, evidence provides support for belief that firm executives time stock repurchase (issuance pricing) announcements such that the market finds the next earnings release surprisingly good (bad).
Cautions regarding findings include:
- Reported returns are gross, not net. Including the costs of trading to exploit findings would reduce these returns.
- Capturing earnings release day returns is problematic because of gap up or down stock price responses.
- Opportunities (earnings announcements) may cluster, limiting exploitation.
- Results suggest that exploiting responses to earnings after issuance pricing announcements is more difficult than after repurchase announcement.
Frequently Asked Questions
What is a stock repurchase and how does it differ from a stock issuance?
A stock repurchase is when a firm buys back its own shares, while a stock issuance is when a firm sells new shares to investors. In the Amini and Singal study, repurchases were defined as announcements of at least 5% of outstanding shares and issuances as pricings of at least 10% of outstanding shares. Both are viewed as moments when executives may hold superior information about the firm's prospects.
Do stock repurchases and issuances predict earnings surprises?
Stock repurchases and issuances do appear to predict earnings surprises. For 1987-2013, earnings releases after repurchase announcements produced a four-factor alpha of +2.5% over 15 trading days, while those after issuance pricings produced -3.1%. This supports the belief that executives time these actions ahead of surprisingly good (repurchases) or bad (issuances) earnings.
How do researchers test whether executives time buybacks and stock sales around earnings announcements?
Researchers compare stock returns around earnings releases occurring 16 to 30 trading days before or after repurchase and issuance announcements. The study covers 1987-2013 and includes 891 (1,072) repurchase and 1,415 (1,604) issuance announcements within 16 to 30 days before (after) earnings releases. Returns are measured from release day through the next 15 trading days and adjusted using a four-factor model (market, size, book-to-market and momentum).
How do earnings releases before a buyback announcement compare with those after it?
Earnings releases before a repurchase announcement tend to be surprisingly bad, while those after tend to be surprisingly good. The average 15-day return from release day is -3.8% (four-factor alpha -3.0%) for releases 16 to 30 days before repurchases, versus +4.0% (alpha +2.5%) for releases 16 to 30 days after. This pattern is consistent with executives timing buybacks around the earnings news.
What are the limitations of trading on repurchase and issuance announcements to exploit earnings surprises?
The reported returns are gross rather than net, so trading costs would reduce them. Capturing earnings-day returns is problematic because of gap up or down price responses, and earnings announcement opportunities may cluster, limiting exploitation. Results are also somewhat weaker for smaller repurchases and issuances, larger firms and the post-2000 subsample, and exploiting issuance cases appears harder than repurchase cases.