The "repricing" effect: why good economic news can hurt firm-specific expectations

When major economic news is released — such as GDP growth, inflation data, unemployment reports, or interest rate decisions — it has a big impact on financial markets and investor beliefs. But what happens when those announcements come shortly after a firm has released its earnings? According to a new study from the UBC Sauder School of Business, even good economic news can stifle a company’s returns.

For the study, titled Macroeconomic Announcements and the Repricing of Earnings Risk, researchers examined stock market data from thousands of U.S. companies spanning 30 years and looked at the timing of economic news and company-specific earnings announcements. 

Along the way, they tracked individual stock prices in 25-minute increments before and after broader economic data was released, and observed how closely they did — or didn’t — follow the larger market.

It turns out that timing really is everything. The study shows that companies that release earnings immediately before a macroeconomic announcement earn substantially lower returns on announcement days than firms that hold off until after the economic news blows over.

Why is that? This is driven by the complex information-updating process of market participants. 

Study co-authors, Boston University’s Assistant Professor Dr. Leyla Han and UBC Sauder Assistant Professor Dr. Ella Patelli, say investors use earnings announcements to form their beliefs — not only about the financial health of individual firms, but also about the broader market. Then, when new macroeconomic information is released, all prior beliefs need to be reassessed in a new light.

Macro news changes how investors split earnings growth between the economy and the firm. When macro news is strong, investors attribute more of the earnings' growth to the economy and less to the firm than they previously thought, and vice versa. In other words, good economic news can mean bad news for beliefs about a specific firm’s growth. 

For example, explains Dr. Patelli, imagine a company enjoys seven per cent growth, and investors believe five per cent is due to the macroeconomy and two per cent is driven by company-specific performance. Then, if economic news is surprisingly bad, and shows that just two per cent is from broader growth, it will boost beliefs about the firm. Bad news for the economy, good news for the firm.  

This has implications for returns: when beliefs about a firm move in the opposite direction of the market, it hedges market risk, and, as a result, its returns are expected to be lower. 

Now, on the contrary, if a company reports five per cent growth, and investors believe that two per cent stems from macroeconomic forces and three per cent is specific to the firm, but then macroeconomic news shows the economy has grown by five per cent, investors must update their beliefs about the company, which takes the shine off the company’s earnings. Good news for the economy, bad news for the firm.

“People expect that if there is good news, the returns would go up,” says Dr. Patelli. “But in our case, this mechanism lowers the return for that specific firm.”

But the effect doesn’t happen evenly, notes Dr. Patelli. Firms whose earnings announcements include more information about the aggregate state of the economy are the most impacted.

“If a firm’s earnings announcement contained substantial information about the macroeconomy, then macro news arriving two days later will trigger a reassessment of what we think about this firm,” explains Dr. Patelli. “However, if a firm gives an earnings announcement that carries mostly noise, a subsequent macroeconomic announcement would not trigger the same belief revision.”

Past research has examined the impact of macroeconomic news and firm-level information, but the UBC study is the first of its kind to combine the two and demonstrate how broader economic announcements prompt investors to rethink company-level growth. 

"It confirms that investors follow a structured belief-updating process,” explains Dr. Patelli. “We are the first to formally document that they reassess prior beliefs about individual firms’ growth when new macro information comes to light,” she adds. “I find that pretty powerful.”

The research also represents a feat of computing. The dataset researchers used was so large that it took powerful university servers months to download and clean the billions of minutes of recorded data. From there, the study authors used a learning model to examine firm returns at the minute level over the course of decades.

In the meantime, Dr. Patelli notes that these findings suggest that sophisticated investors could benefit from these predictable return dynamics by incorporating them into their investment strategies.