Returns to contrarian investment strategies: Tests of naive expectations hypotheses

doi:10.1016/S0304-405X(96)00887-2

Journal of Financial Economics

Volume 43, Issue 1, January 1997, Pages 3-27

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Abstract

This paper examines the ability of naive investor expectations models to explain the higher returns to contrarian investment strategies. Contrary to Lakonishok, Shleifer, and Vishny (1994), we find no systematic evidence that stock prices reflect naive extrapolation of past trends in earnings and sales growth. Building on Bauman and Dowen (1988) and La Porta (1995), however, we find that stock prices appear to naively reflect analysts' biased forecasts of future earnings growth. Further, we find that naive reliance on analysts' forecasts of future earnings growth can explain over half of the higher returns to contrarian investment strategies.

Keywords

Market efficiency

Naive expectations

Analysts' forecasts

JEL classification

G12

G14

M41

Cited by (0)

¹: We are grateful for the comments of Christine Botosan, John Cochrane, Eugene Fama, Kenneth French (the referee), S.P. Kothari, Bob Holthausen, David Ikenberry, Craig MacKinlay, Rick Ruback, Bill Schwert, Jake Thomas, and workshop participants at Harvard University, the University of Oregon, Rice University, the University of Rochester, the 1995 Chicago Quantitative Alliance Conference, the 1995 NBER Asset Pricing Group Meetings and the Sixth Annual Conference of Financial Economics and Accounting We thank I/B/E/S for providing EPS forecast data available through the Institutional Brokers Estimate System.