Banking

Myopic Extrapolation, Price Momentum, And Price Reversal

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Executive Summary

The momentum profits are realized through price adjustments reflecting shocks to firm fundamentals after portfolio formation. In particular, there is a consistent cross-sectional trend, from short-term momentum to long-term reversal, that happens to earnings shocks, to revisions to expected future cash flows at all horizons, and to prices. The evidence suggests that investors myopically extrapolate current earnings shocks as if they were long lasting, which are then incorporated into prices and cash flow forecasts.

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