STOCK PRICE RESPONSE TO EARNINGS

ANNOUNCEMENTS USING EVIDENCE FROM THE

UK STOCK MARKET

ADNAN KARIM
Student ID: w146664901
SUPERVISOR: Dr. Eleni Chatzivgeri

A dissertation submitted in partial fulfillment of the requirements of the

University of Westminster
for the degree of (BA Hons) Business Management Finance and
Financial Services
May 2016

Abstract
This paper investigates the stock market reaction to interim earnings information
releases using data for a sample of firms on the London Stock Exchange. The unique
data set draws upon 30 companies listed on the FTSE 100 over the period of 20112014. Using the event study methodology, both daily and cumulative abnormal returns
are calculated over an 11 day event window to capture the pre- and post- event day
returns. To measure the effect of good and bad earnings announcements, data is
categorised based on earnings surprise. The results suggest that there was significant
reaction from investors a day prior to the positive news announcements, which could
suggest information leakage. Following the event, an investor overreaction was
observed and a share price reversal pattern was evidenced two days after the
announcement. No significant reactions were recorded when negative interim earnings
information was released. Thus the conflicting evidence on the efficient market
hypothesis dictates the need for further research.

Acknowledgments
First and foremost I would like to thank my supervisor, Dr. Eleni Chatzivgeri for
facilitating this project, without you this would have not been possible.
Work experience played a pivotal role in introducing me to financial concepts, for that I
would like to personally thank Caroline O'Reilly.
I would like to thank Dr. Souad Mohamed for providing me with the right guidance when I
first joined the University of Westminster and Declan McDonald for enthusing my
passion for finance.
I would like to express my sincere gratitude to the past teachers who inspired me to
pursue academia: Dean Lubin, Jacques Mostert, Sharon Richards-Rowe, and all of the
academic staff at The Lammas School.
Most importantly, I would like to thank my beloved mother, who sacrificed so much for
me to have an education.

CONTENTS
1

Introduction.................................................................................................. 1

Literature review........................................................................................... 3

2.1

Background: efficient market hypothesis and earnings announcements..........3

2.2

The historical evolution of event studies.....................................................4

2.3

Critical review......................................................................................... 6

2.4

Literature review summary.......................................................................8

Data and methodology................................................................................. 10

3.1

Sample selection.................................................................................. 10

3.2

The event study approach......................................................................10

Findings and discussion............................................................................... 14

4.1

Positive earnings announcements results.................................................15

4.2

Negative earnings announcements results................................................18

Conclusion................................................................................................. 21

Bibliography............................................................................................... 23

Introduction

This paper investigates the behaviour of returns around earnings announcements for UK
listed companies on the London Stock Exchange. An event study may be defined as a
statistical method to measure the effect of a corporate event, by examining the response
of a stock price around the announcement of an event (Mackinlay, 1997). The central
questions to this dissertation asks; is the UK stock market1 efficient? What is the effect of
positive or negative earnings announcements? It is hypothesised that earnings
announcements should impact the behaviour of stock returns, which deems the UK
stock market to be inefficient. Furthermore, it is believed that negative earnings news will
have a more significant impact than of positive earnings news. Although problems of the
event study have been highlighted by various academics such as Brown and Warner
(1985) and Khotari and Warner (1997), the event study approach has become ubiquitous
in capital markets research as a means for a researcher to infer the significance of an
event (Mcwilliams and Sigel, 1997, p626). In that vein, by using typical event study
methodology, the UK stock market reactions to earnings announcements will be
investigated. Surprisingly, within the rich body of event study literature, there has been
few recent studies which have examined UK stock market reactions to earnings
announcements. Thus this dissertation hopes to fill the void in literature by using a
unique data set of 30 UK stocks over the period of 2011 to 2014. However, this
dissertation will be limited to the use interim earnings announcement data.
The structure of this dissertation will be organised in the following sequence; firstly, a
literature review will provide an overview of previous research and offer an idea of the
future direction of research, secondly, a methodology will explain the approach of this
study to measure the effect of earnings announcements on the UK stock market and
thirdly, results will be discussed in the findings and

1 The term UK stock market will be used interchangeably with the FTSE 100
1

discussion chapter. The last chapter, the conclusion, will provide an overarching review
of each of the previous chapters.

2
2.1

LITERATURE REVIEW
BACKGROUND: EFFICIENT MARKET HYPOTHESIS AND EARNINGS ANNOUNCEMENTS

Since Fama (1970) introduced the efficient market hypothesis, scholars generally
accepted the view of market efficiency, in believing that security markets are efficiently
priced and that security prices fully reflect all available information (Malkiel, 2003). In that
vein, no abnormal returns could be made by investors from public information. However,
more recently, works of Fama (1970) have been challenged. A recent surge of empirical
studies have emerged, testing the validity of the efficient market hypothesis. In particular,
the event study methodology has been widely adopted as the primary methodology to
measure the effect of informational content (Seiler, 2000). Earnings announcements
have long been perceived to be an important indicator of the current and future
performance of a company (Beaver 1968; Beaver et al. 1997; Francis et al. 2002).
However, academics have contrasting viewpoints, as to whether abnormal returns arise
as a result of earnings announcements. For example, some scholars note abnormal
returns resulting from earnings information releases (Su 2003; Sponholtz 2008; Afego
2013; Sehgal and Bijoy 2015). On the other hand, some academics argue that stock
prices react quickly and efficiently to earnings information, resulting in no abnormal
returns (Kuen and Gao 2004; Kothari et al. 2006; Sadka and Sadka 2009). Moreover,
scholars examine the persistence of these anomalies and commonly classify earnings
information as either good or bad. The anomaly of abnormal returns can be attributed to
a host of factors, such as; pre-event signals from voluntary disclosures, insider trading,
investor perceptions and the slow diffusion of information in markets (Skinner 1994;
Harrison et al. 2000; Brav 2002; Tawatnuntachai and Devrim 2007; Lakhal 2008;
Alldredge and Cicero 2015). Furthermore, within the body of event study literature, there
have been few recent studies conducted in the UK concerning earnings announcement
effects. Thus this paper presents an attempt to fill the void in event study literature, by
providing a recent study on UK stock market reactions to earnings announcements.
The literature review will first examine the historical evolution of event studies, followed
by a critical review of a related article to this dissertation. There is vast research
surrounding the effects of informational content such as; mergers, Simpson and David
(2001), stock splits Lyroudi et al. (2006) and dividend announcements Maitra and Dey
(2012) and Szomko (2015). However, since the primary focus of this paper is on UK
stock market reactions to earnings announcements, other informational content will not
3

be reviewed extensively but referred to where appropriate. Thus the critical review will
assess the study of Tucker et al. (2013).
2.2

THE HISTORICAL EVOLUTION OF EVENT STUDIES

Tracing back the roots of event studies, Mackinlay (1997) records an early paper by
Dolley (1933) who examined stock price reactions to stock splits. Subsequent, early
adopters of event studies have entered into leading business economic journals (Myers
and Bakay 1948; Barker 1956; Ashley 1962). In tandem with the emergence of event
studies, methodology had developed to accommodate the changing requirements of
research (Corrado, 2011). Often defined as the landmark paper, the classic stock split
study by Fama et al. (1969) presents the core elements of event studies. In particular,
the elimination of cofounding effects was viewed as significant. Strikingly, the basic
statistical layout of event studies are still used in contemporary research.
Warner and Khotari (2007) cites that two main changes in event study methodology
have taken place. The first change is attributed to the problems revealed by Brown and
Warner (1980), who suggests that performance issues are prevalent with the use of
monthly security return data. In that vein, the use of daily2 security return data has
become quintessential in modern event study research, providing a more precise
measurement of announcement effects (Mackinlay 1997; Warner and Khotari 2007).
However, later research by Brown and Warner (1985) unearthed a host of issues with
the use of daily security returns data which relates to; non-normality, non-synchronous
trading, market model parameter estimation and variance estimation. Nonetheless,
scholars generally agree that the use of daily data increases the statistical power of
tests. Warner and Khotari (2007) suggests that the second main change is that the
approach to estimate abnormal returns and calibrate their statistical significance have
become more refined. In particular, this second change holds importance for longhorizon studies. In the late 1990s academics criticised the reliability of long-horizon
event studies. Khotari and Warner (1997) casts doubt over the reliability of long-horizon
event studies, suggesting that abnormal security returns around firm-specific events are
misspecified. Similarly, Fama (1998) argues that long-term return anomalies may be
sensitive to methodology. This implies that the interpretation of long-horizon results may
be ambiguous. However, it may be noted that changes in technique may extricate this
2 sometimes intra-day
4

problem. In contrast, short-horizon tests are thought to represent the cleanest evidence
we have on efficiency Fama (1991, p1602). This view is evidenced by the fact that daily
expected returns are close to zero and thus the model for expected returns, does not
significantly influence the inferences drawn about abnormal returns (Fama, 1998).
Considering the effectiveness of short-horizon tests, this dissertation will use a short
event window of three days, to eliminate co-founding effects (Fama et al., 1969). Thus
increasing the repeatability of results (Brown and Warner, 1985). Additionally, daily
returns data will be used in this dissertation to provide a more precise measurement of
information effects.
Numerous studies have employed the event study methodology to observe the effect of
different informational content. Recent explorations observe; the effect of stock splits
Lyroudi et al. (2006), dividends announcements Maitra and Dey (2012) and Szomko
(2015), and more innovative work by Scholtens and Peenstra (2009) analyses the
linkages between the effect of football matches and stock market returns. Moreover,
there has been a plethora of research surrounding earnings announcement effects, both;
in emerging market Su (2003), Sponholtz (2008), Qureshi et al. (2012), Afego (2013),
Sehgal and Bijoy (2015) and established markets, mainly the US Gennotte and Trueman
(1996). However, there has been comparatively fewer recent studies conducted on the
UK stock market3 (Liu et al. 2003; Alegria et al. 2009; Tucker et al. 2013) Thus there is a
particular need investigate UK stock market reactions to earnings information, to
contribute to a discipline which continues to expand (Corrado, 2011). In regards to the
UK stock market, Alegria et al. (2009) finds evidence of no abnormal returns around
earnings announcements, however the authors do observe share price reversals
following an earnings announcement. Similarly, Tucker et al. (2013) agrees that
corrections occur following an earnings announcement but claims that the UK stock
market is inefficient. Liu et al. (2003) further evidences that the UK stock market is
inefficient, by concluding that the investors of the UK stock market do not process
earnings information efficiently, which is reflected by a post-earnings announcement drift.
As discussed earlier there has been no general consensus as to whether earnings
announcements result in abnormal returns, thus the debate on market efficiency
continues (Malkiel, 2003).

3 with a particular focus on post-earnings announcement drift

5

2.3

CRITICAL REVIEW

Tucker et al. (2013) uses a holistic approach to investigate the behaviour of security
returns around an array of corporate news announcements. Reliability is viewed as a
key concern for research and may be defined as the consistency of measurement
(Bollen, 1989). The large scale study requires a great number of t-tests, thus at 5%
significance, one of the twenty tests conducted may be significant, purely by chance.
However, Tucker et al. (2013) proposes a possible solution for this by using conservative
levels of significance, consistent with event study estimation recommendations (Ahern,
2009). In that light, it may be argued that feasible conclusions can be drawn. In terms of
sample selection, the authors classify samples taken between 1992 and 2002 into three
categories, organised by size. 33 companies were classified in the medium and large
group sizes, with the remainder of 34 companies categorised within the small group,
respectively. Although there is no mention on how size is defined, it may be assumed
that firms are appropriated to groups by market capitalisation. The use of a small group
may be problematic due to the infrequent trading of securities. Scholars argue that thinly
traded share markets are misspecified and researchers should present thickly traded
stocks independently of thinly traded stocks (Maynes and Rumsey 1993; Bartholdy et al.
2011). As a consequence, non-trading bias may be induced, leading to distorted results.
On the contrary, given that a large sample size is used, reasonable conclusions may be
drawn (Bartholdy et al., 2011). In addition, it may be noted that, the samples were drawn
from data recorded over a decade ago, hence there is a need for a more contemporary
study. Overall, the author has considered the issue with such a large scale study, and
given the large sample size used, it is unlikely that results are markedly unreliable from
the issues aforementioned.
Equally important is the validity of research. Bollen (1989) considers validity as the
significance of research components. Tucker et al. (2013) employs the event study
methodology using the classic market model of Brown and Warner (1980) to measure
abnormal returns. In that vein, it may be argued that the author involves variables
adequate of evaluating the reactions of investors to earnings announcements4, hence
fulfilling the objective of examining stock price reactions to changes in EPS5. Typical of
event studies, the parametric t-test is used to test for the significance of abnormal
4 on normal trading days versus the days surrounding the event
5 Earnings Per Share
6

returns. There are various arguments raised as to the validity of t-tests. For instance, a
normal distribution is assumed for the returns of securities. However, Brown and Warner
(1985) suggest that stock prices are not normally distributed. As a result of violating the
assumption of normality, parametric tests produce misspecified test statistics. On the
contrary, Brown and Warner (1980) argues that non-parametric tests will often falsely
accept6 or reject7 the null hypothesis too often. Nonetheless, a number of event studies
still rely on the use of parametric t-tests (Dutta, 2014). Moreover, Tucker et al. (2013)
finds evidence of abnormal returns around earnings releases and further records post
earnings announcement drifts. This view is considered consistent with the wellestablished anomaly of post earnings announcement drift (Benard and Thomas, 1989).
The phenomenon has been well documented by scholars and thus results are
generalisable across various contexts (Benard and Thomas 1989; Liu et al. 2003; Yuan
2008; Alegria et al. 2009; Cao and Narayanamoorthy 2012). Moreover, the sources used
by Tucker et al. (2013) are generally credible and have been drawn from leading finance
journals. Although the author cites many old articles, these articles are not viewed as
outdated, as they are still embedded as key papers within event study literature.
All in all, the research conducted by Tucker et al. (2013) can be viewed as having key
components of reliability and validity for sound research. Moreover, Results can be
generalised across different contexts. The scholars which carried out the research take a
holistic approach, observing many different corporate news sources with the hope of
determining the consistency of return patterns within existing models8. Further research
taking this approach could unearth undiscovered returns patterns.
2.4

LITERATURE REVIEW SUMMARY

A plethora of empirical studies have emerged, testing the validity of the efficient market
hypothesis. There have been broad developments within the event study literature, with
research being conducted across various geographies, testing the effect of wide-ranging
informational content. Undoubtedly, earnings information carries valuable content, but
there is much debate as to whether stock markets show signs of abnormal returns.
6 when testing for negative abnormal performance
7 when testing for positive abnormal performance
8 namely, efficient market models and behavioural models
7

Despite a rich body of event study literature, there have been comparatively fewer,
recent studies conducted in the UK, which this dissertation hopes to contribute towards.
Over the past generations, there have been significant contributions to event study
literature. Remarkably, the basic statistical layout of Fama et al. (1969) is still extant. Two
Pivotal changes in the evolution of event studies has attracted the use of daily data and
approaches to estimate abnormal returns and calibrate their statistical significance, have
become more sophisticated (Warner and Khotari, 2007). In regards to UK earnings
announcement effects, there have been differing opinions voiced by scholars, as to
whether abnormal returns arise around earnings announcements. The work of Tucker et
al. (2013) is considered to have components of reliability and validity and the results
found, prove consistent with existing literature. The approach taken by the authors are
an interesting avenue for further research. Repeatability of the holistic approach taken
could yield significant empirical evidence of the behaviour of security returns around
corporate news. Thus establishing a new outlet for empirical research to test the
efficiency of markets.

3
3.1

DATA AND METHODOLOGY

SAMPLE SELECTION

Daily closing prices and interim earnings announcement dates were drawn for a sample
of 30 companies listed on the London Stock Exchange between 2011 and 2014. The use
8

of the Bloomberg software aided this data collection. Investors may use interim earnings
announcements to predict the final earnings announcement results (Grant, 1980). Thus
the informational content of interim earnings announcements may be viewed as holding
valuable informational content and hence is considered as an appropriate choice.
Additionally, since a central interest to this paper is to understand the effect of positive
and negative news, good news will be defined as earnings surprise above 0% and bad
news as earnings below 0%. Overall, there have been 26 bad news and 52 good news
recorded. Although the influence of well-documented market anomalies may affect the
returns of securities, it is unlikely that that such anomalies will have a significant impact
on results, due to the short-term nature of this study. However, controls are enforced for
the effect of firm size by restricting the sample to largest sized companies in the FTSE
100. Whereby, size is measured by market capitalisation. Furthermore, the period
between 2011 and 2014 has not yet been studied in event study literature9, therefore the
unique sample period has been chosen accordingly.
3.2

THE EVENT STUDY APPROACH

In order to test the effects of earnings announcements on security returns, the standard
event study methodology will be adopted. Daily data is used to eliminate co-founding
effects (Fama et al., 1969). In addition, short10 event windows are typically defined in the
analysis of announcement effects and are characterised as having high statistical power,
in comparison to longer event windows. Hence the event window constructed will
contain 11 days;

t=5,4,3,2,1,0 .+ 4+5 . Consistent with the

recommendations of Mackinlay (1997), the event window defined allows for spillover
effects in surrounding days and does not weaken the power of the test. Although there
is no uniform agreement with regards to estimation periods, scholars commonly impose
an estimation period of 120 days prior to an event (Mackinlay, 1997). Thus the
estimation period will be set to 120 days before each interim earnings announcement.
The market model is generally considered as a precise estimator of normal expected
returns (Brown and Warner 1985; Mackinlay 1997). In that vein the market model will be
used to compute normal expected returns and is defined as:
9 with regards to the UK stock market concerning earnings announcements
10 denoted as less than 12 months
9

Rit = i + R Mt + it (1)
where

Rit

i and

is returns on the stock

i at time period t ; the model parameters

i are estimated via ordinary least squares regression (OLS);

market return at time

t ; and it

is the error term.

To test for market reactions to earning announcements,

each stock at time
stock

ARs

will be computed of

in the defined event window [5, 5] . Hence, the

i on the day t

R Mt is the

AR

of

is taken as the difference between the return on the day

Rit , and the expected return of the stock without the earnings announcement effect,
E[ Rit / R Mt ] , which is calculated from the which is calculated based on the estimation
period. Thus

ARs

will be measured by:

AR it =Rit E [R it /R Mt ]
Rit [ i + i R Mt ]
Rit i i R Mt
where

i and

days; and
returns

(3)
(4)

AR it is the percentage change in the share price before the earnings

announcement of stock
occur;

(2)

i on each day t

greater or less than, what is expected to

i are the OLS values derived from the estimation period of 120

R Mt is the market return on day t . Hereafter, the average abnormal

AAR t

will be computed, across all observations

N , using this model:

10

1
AAR t = AR it
N i=1
Moreover,

ARs

(5)

will be tested for statistical significance, namely by using the t-

statistic:

tAAR=

where

AAR t
SD( AARt )

SD( AAR t ) is the standard deviation of the

(6)

ARs

calculated over the

estimation window. Furthermore, the null hypothesis to be calculated is that the mean

AR

will not deviate in the period surrounding the event day, and will remain at zero. A

mathematical illustration is provided of this:

H 0 : AR=0
H 1 : AR 0
Assuming informational symmetry in an efficient market, the null hypothesis should hold
true, in that the price behaviour of stocks should behave in the same way, even in the
event of an earnings announcement. However, as mentioned in the previous chapter,
scholars have identified anomalies, therefore it is hypothesised that

ARs

should

deviate from zero.

Cumulative abnormal returns

CARs will be calculated to make generalisations about

the overall market reaction to earnings announcements. Therefore, by summing up the

AARs

for each stock over the 11-day event window, the

CARs can be measured

by:

CAR t=

1
AAR t
N

(7)

Similarly, a t-test will be used to test for statistical significance:

11

tCAAR=

where

CAAR t
SD (CAAR t )

(8)

SD( CAARt ) is the standard deviation of calculated over the estimation

window.

FINDINGS AND DISCUSSION

This section will present the results obtained from analysis. Table 1 shows the average
abnormal returns (AARs) from good news and Figure 1 gives a graphical illustration of
cumulative average abnormal returns (CAARs) around the event day. Similarly, Table 2
presents AARs from bad news and a graph of CAARs around the event day in Figure 2.
T-Stat values are regarded as statistically significant at the 5% level, with corresponding
p-Values less than 0.05. The values which are found to be statistically significant are
bold and contain an asterisk (*). Several interesting results have been observed.
4.1

POSITIVE EARNINGS ANNOUNCEMENTS RESULTS

Table 1: AARs and CAARs Around Positive Earnings Announcements

Day

AAR

T-Stat

p-Value

CAAR

12

-5

0.03%

0.2086

0.417788

0.03%

-4

0.00%

-0.0101

0.49603

0.03%

-3

-0.03%

-0.2015

0.420741

0.00%

-2

0.07%

0.4352

0.332609

0.07%

-1

-0.30%

-1.8694*

0.03363

-0.23%

0.66%

4.1297*

0.000066

0.43%

0.03%

0.2097

0.417361

0.47%

0.36%

2.2243*

0.015247

0.83%

-0.05%

-0.292

0.385724

0.78%

-0.25%

-1.5594

0.062531

0.53%

0.02%

0.118

0.453261

0.55%

CAAR

T-Stat

p-Value

(-5,5)

1.0231

0.155498

Figure 1: Graph of CAARs Around Positive Earnings Announcement Days

13

Relating back to the efficient market hypothesis, if markets are efficient then information
is incorporated instantaneously, this is reflected by the null hypothesis, in which, mean
abnormal returns should not deviate from zero (Fama, 1970). Concisely, no investors
can earn abnormal returns on the basis of information within earnings news. This implies
that stock prices will adjust to earnings information when the announcement is made
public. Thus, when the earnings news is disclosed, there should be no statistically
significant abnormal returns earned during the day of the announcement11. However,
results for positive earnings news suggest otherwise. The event day reaction shows that
positive earnings news produces a statistically significant reaction, with cumulative
abnormal returns of 0.43%. Hence the null hypothesis is rejected. Interestingly, the day
before the announcement (day -1) is significant at the 5% level. This may suggest bad
news had leaked into the market and that investors had wrongly anticipated the
information content of the earnings news, with average cumulative abnormal returns of
-0.23%12 observed. A possible explanation of this phenomenon, is perhaps firms
voluntarily released news before the earnings announcement, which contained material
information (Skinner 1994; Lakhal 2008). This may have caused investors to review their
position on stocks in advance (Ball and Brown, 1968). A more cynical explanation is that
investors with prior knowledge of the content contained within the earnings
announcements, could have artificially driven down the price of stocks and capitalised on
these stocks, by buying at low prices and selling at high prices ahead of the earnings
announcements (Alldredge and Cicero, 2015). Nonetheless, this could have just been a
case of investor irrationality (Brav, 2002).
Another implication of the efficient market hypothesis is that, during the post-event
window there should be no statistically significant cumulative abnormal returns. Contrary
to the efficient market hypothesis, during the post-event window there is evidence
suggesting initial investor overreaction which is followed by a correction within the event
window. The second day after the announcement (day 2) yields cumulative abnormal
returns of 0.83% and is statistically significant. This result is consistent with existing
literature, in that investor overreaction is typically followed by a share price reversal

11 day 0
12 Negative abnormal returns occur when the market outperforms securities
on actual return
14

within the first five days of an announcement (Liu et al. 2003; Alegria et al. 2009; Tucker
et al. 2013).
Overall, with regards to positive earnings announcements, results suggest that during
the; pre-event window, event day, and post-event window, there are significant
cumulative abnormal returns. It is possible that prior information was leaked into the
market, investors overreact to positive earnings news and that the UK stock market is
inefficient.

4.2

NEGATIVE EARNINGS ANNOUNCEMENTS RESULTS

Table 2: Mean ARs and CAARs Around Negative Earnings Announcements

Day

AAR

T-Stat

p-Value

CAAR

-5

-0.15%

-0.4745

0.319728

-0.15%

-4

-0.06%

-0.1794

0.429663

-0.21%

-3

0.11%

0.3315

0.371462

-0.10%

-2

0.02%

0.0559

0.477924

-0.09%

-1

-0.46%

-1.4285

0.082597

-0.55%

0.42%

1.2839

0.105251

-0.13%

-0.04%

-0.1154

0.454664

-0.17%

0.14%

0.4385

0.332323

-0.03%

0.24%

0.7538

0.228871

0.22%

0.03%

0.0933

0.46319

0.25%

-0.11%

-0.3326

0.371275

0.14%

CAAR

T-Stat

p-Value

(-5,5)

0.0973

0.461617

15

Figure 2: Graph of CAARs Around Negative Earnings Announcement Days

The efficient market hypothesis suggests that share price adjustment in the pre-event
window evidences semi-strong form efficiency of a market, while CAARs after the
announcement day directs attention towards a market overreaction or underreaction,
followed by the respective correction (Alegria et al., 2009). Although cumulative
abnormal returns are apparent around the event day from Figure 2, there are no
statistically significant reactions to negative earnings information. Thus it could be
argued that the FTSE 100 is semi-strong form efficient. There are a number of possible
explanations as to why there was a lack of significant reaction to the event. Wesley
16

(2003) suggests that investors react slowly to bad news. This may be caused by
information taking time to diffuse in the market (Harrison et al., 2000). An alternative
viewpoint is that earnings warnings were disclosed prior to announcements, which
investors used as a signal to trade. Thus, anticipating the direction of the earnings
announcement (Ball and Brown, 1968). However, Tawatnuntachai and Devrim (2007)
finds evidence that investors do not overreact to profit warnings but base their response
on long-term performance expectations of firms. This implies that investors perceive the
long-term performance of a company as more important to short-term informational
content, leading to a lack of response to such content. The findings of a lack of
significant reaction to negative earnings announcements agree in part with Alegria et al.
(2009), in that there is no evidence of market efficiency around the event date. Despite
the agreement, the findings were inconsistent with notion of investor overreaction and
share price reversal (Liu et al. 2003; Alegria et al. 2009; Tucker et al. 2013).
All in all, the reaction of investors to negative earnings news is largely uneventful. There
was no significant abnormal returns recorded, which postulates semi-strong form market
efficiency. It is possible that informational effects of earnings announcements on the
FTSE 100 were not observed within the short event window, as information could have
taken a longer time to be absorbed by the market. In addition it may be that earlier profit
warnings were issued by companies or that investors focus more on the long-term
performance expectations of firms. Thus leading to insignificant reactions to earnings
announcements.

17

CONCLUSION

This dissertation was set out to examine the behaviour of returns around earnings
announcements for UK listed companies on the London Stock Exchange. Two principal
questions, stemmed from this overarching aim. The first question enquires, is the UK
stock market efficient? The second question asks, what is the effect of positive or
negative earnings announcements? Interim earnings announcements were obtained for
a sample of the largest 30 companies in the FTSE 100, spanning over 2011-2014, to
investigate these questions. Given the lack of recent research surrounding UK stock
market reactions to earnings announcements, this study sought to expand on existing
literature. A typical event study methodology was employed to seek valuable insight into
the efficiency of the FTSE 100, by observing the returns behaviour of investors around
interim earnings announcements. If the efficient market hypothesis is correct then on
average, stock prices should adjust instantaneously to the release of publicly available
information (Fama, 1970). In that vein, there should be no abnormal returns before or
after the event. On the other hand, alternative theories provide reasons for the abnormal
returns anomaly by, attributing deviations from the efficient market hypothesis to factors
such as: pre-event signals from voluntary disclosures, insider trading, investor
perceptions and the slow diffusion of information in markets (Skinner 1994; Harrison et
al. 2000; Brav 2002; Tawatnuntachai and Devrim 2007; Lakhal 2008; Alldredge and
Cicero 2015).
The first main finding of this paper was that positive earnings announcements induced
significant abnormal returns on and around the event day. Inferences drawn suggest that
positive earnings announcements holds valuable content and has a significant effect on
investors. There was significant reaction from investors a day prior to the event, which
could suggest information leakage. Following the event, an investor overreaction was

18

observed and a share price reversal pattern was evidenced two days after the
announcement. This provides strong evidence against the efficient market hypothesis,
and views the UK stock market as inefficient.
The second main finding of this study, illustrates that negative earnings announcements
are largely uneventful. There was no significant reactions by investors recorded during
the analysis of negative earnings announcement effects. This evidence posits that the
UK stock market is semi-strong form efficient.
This study is consistent only in part with existing literature. Firstly, this research agrees
with previous scholars who argue that investor overreaction is typically followed by a
share price reversal within the first five days of an announcement (Liu et al. 2003;
Alegria et al. 2009; Tucker et al. 2013). However, results obtained from the analysis of
negative earnings announcement effects provided conflicting evidence, in that there was
no significant reactions to the event. Thus the question of UK stock market efficiency is
left unanswered.
The scope of this study is limited in two ways, with the first being the single use of
interim earnings announcements and the second being, the sample size. It is
recommended to increase the robustness of such a study, that both interim and final
earnings announcements should be considered. Although the sample size used in this
study is large enough to draw statistically feasible inferences, to increase the statistical
power of this test, a larger sample size should be used.
Despite the long held belief of market efficiency, the debate over the validity of the
efficient market hypothesis continues, with competing theories of behavioural anomalies
entering the discussion. Given such topical arguments, it is unlikely that scholars could
ever reach an agreement. Nevertheless, pivotal papers have been developed throughout
history and changed the landscape of event study literature. The evolution of event
studies, evidences that the dispute over market efficiency provides a venue for
innovation and undoubtedly, provides valuable insight within empirical research.

19

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