Evidence on the Market's Underestimation of Foreign Earnings Persistence

Abstract

Can a hedging strategy consistently generate profits by exploiting a drift in returns following the announcement of large changes in the foreign earnings of U.S. multinational firms? Results of this study indicate such a strategy produces positive profits on average, but the returns vary considerably from year to year and are negative in two of eight years examined. A market-neutral hedge portfolio based on announced changes in foreign earnings represents not a pure arbitrage opportunity, but rather a potentially risky style of investment.