Effect of Post Earnings Announcement Drift on Stock Returns at the Nairobi Securities Exchange

Abstract

In a market that is efficient, prices must represent entirely the information that is accessible in the market and entry of new information in the market is reflected in totality in the price adjustments. However, research indicates that following earnings announcement, abnormal returns of firms having positive news continually drift upwards whereas abnormal returns for firms having bad news drift downwards, a scenario referred to as Post Earnings Announcement Drift. The study sought to determine the effect of post earnings announcement drift on stock returns at the Nairobi Securities Exchange. The theories anchoring the study included; the Efficient Market Hypothesis, the Capital Asset Pricing Model, and the behavioral finance theory. Secondary data used for analysis in the current study, which entailed daily stock prices, was gathered from the Nairobi Securities Exchange. The study was an event analysis of post earnings announcement drift. The study analyzed the reaction of stock returns of listed firms 10 days before dividend announcement and 10 days after for a period of five years; from January 2017 to December 2021. T-test was carried out to establish the significance of the post earnings announcement drift on stock prices. Only 55 Companies listed at the NSE met the set criteria which entailed that firms’ stocks have not at any time stopped trading on the NSE for the period between January 2017 and December 2021 and that the firms’ must have posted its earnings consistently during the period between January 2017 and December 2021 to avoid data gaps. The study findings established that the cumulative average abnormal returns for all the five years analyzed were increasing before the earnings announcement albeit at a minimal rate but increased steeply after the earnings announcement date. This implies that the post earnings announcement drifts led to significant positive abnormal returns in the short run. The findings further illustrates that the stock returns for the selected companies reacted minimally positively in anticipation of the earnings announcement but reacts strongly positive after the earnings announcement in all the five years. From the t-test of significance, the study established that post earnings announcement drift has a significant effect on the stock returns of firms listed at the NSE. Policy recommendations are made to government officials and policy makers in the Treasury and the security markets regulator, the Capital Markets Authority, to adopt policies that would enhance market efficiency for predictability of the market behavior by market players and for enhanced investor confidence in the operations of the market. Recommendations are also made to consultants and management of listed, as well as other firms, to consider earnings as a factor that influence share prices/firm value as they formulate strategies and policies, and they should aim for positive earnings. Recommendations are also made to investment banks, equity analysts, and individual investors to invest in firms that post positive earnings in order to increase their wealth or their clients’ wealth. Finally, recommendations are made individual investors to consider positive earnings announcement by companies in which they hold shares since post earnings announcement drifts would impact on their returns.