The Research Behind Big Profits: The Impact of After Hours Announcements
Yesterday, we recapped our founder Oliver’s session at the Wealth 365 conference. He was joined by one of the researchers behind the insights that power our platform: Dr. Joshua Livnat of NYU’s Stern School of Business.
Dr. Livat teamed up with researchers from three other major universities to study the effects of extended hour stock prices on subsequent return (if you don’t understand the ‘after hours markets,’ check out our guide here). Why would a highly credentialed research team want to focus on this relatively narrow segment of market data?
Because, quite simply, extended hours are when markets absorb the most new information. According to Dr. Livnat’s team, 90% of quarterly earnings announcements are issued during extended hours, not to mention 75% of SEC filings and virtually all analyst rating changes. But here’s the catch: this research suggests that relying on extended-hours price movement alone isn’t enough. In fact, after hours price movement for stocks not affected by a news event is actually negatively correlated with the next day’s performance:
“We first provide evidence that returns in the After sessions are significantly and negatively associated with returns in the Main sessions of the next day. These results indicate that one cannot typically rely on extended hours trading to predict a drift in subsequent Main session returns, likely because it does not reflect information but is driven by liquidity needs of some traders.”
But Dr. Livnat’s team went further.
What if they confined the data set to extended hours price movement on days when actual news events were released? With this added piece of data, they found that next day returns were “positively and significantly associated” with price movement caused by major news events from the previous evening.
This observation tracks common sense: no matter how fast we might expect markets to absorb new information, it certainly isn’t instantaneously. Not all traders participate in extended hours markets, virtually guaranteeing at least some lag between news release and price impact. Furthermore, extended hours features far less liquidity than regular trading. Large investors simply may not have the volume available to react to a news event (a key opportunity for agile smaller traders).
Whatever the precise reasons, the data clearly show that news events affecting a stock’s price will continue exerting influence into the next day’s trading session. But their results went even further. A given after-hours trading event continued to exert positive and significant pressure on the stock in question for up to a full quarter. Indeed, these longer-term “drift returns” are even more correlated with after-hours movement in the aftermath of the event than the subsequent day’s main trading. The findings apply to both earnings announcements and analyst ratings. Other news events couldn’t be included in the study, as they can’t be objectively categorized as positive or negative (eg. The naming of a new CEO).
These fundamental insights need additional data to be turned into a profitable trading strategy: real-time news event analysis, historical data to judge entry/exit points and hold times, and extensive information on market reaction to stock ratings by analysts. And that’s where the News Quantified platform comes in. If you’d like an up-close demonstration of how we’re bringing data-driven profits to smaller investors, we recommend one of our complimentary training seminars. You can claim a spot in the next session using the button below: