In this research paper titled “Advertising, Attention, and Stock Returns,” authored by Thomas J. Chemmanur and An Yan, the investigation delves into the nuanced relationship between advertising activities and stock returns, both in the short run and the long run.
The study reveals a fascinating pattern: a positive association between a greater amount of advertising and a larger stock return in the advertising year, followed by a smaller stock return in the subsequent year. Importantly, even after accounting for other price predictors such as size, book-to-market, and momentum, this advertising effect on stock returns persists.
The paper posits a compelling hypothesis—the “investor attention hypothesis”—suggesting that advertising plays a crucial role in attracting investor attention. The stock price increases in the advertising year due to the heightened attention but decreases in the subsequent year as the attracted attention wanes over time in the long run.
To test this hypothesis, the researchers employ trading volume and the number of financial analysts covering as proxies for investors’ attention on the firm’s stock.
The findings reveal a series of consistent patterns, including the impact of advertising on a firm’s visibility, the association between increased investor attention and stock returns, and the varying strength of the advertising effect based on factors such as the firm’s visibility, the persistence of attention, and the cost of arbitrage.
Additionally, the paper uncovers that the advertising effect is more pronounced for small firms, value firms, and those with poor ex-ante stock or operating performance. Overall, these results provide valuable insights into the intricate dynamics between advertising, investor attention, and stock returns.
Abstract Of Paper
This paper studies the effect of advertising on stock returns both in the short run and in the long run. The authors find that a greater amount of advertising is associated with a larger stock return in the advertising year but a smaller stock return in the year subsequent to the advertising year, even after we control for other price predictors, such as size, book-to-market, and momentum.
The authors conjecture that this advertising effect on stock returns is due to the effect of advertising on investor attention. Advertising could help a firm attract investors’ attention. Stock price increases in the adverting year due to the attracted attention, but decreases in the subsequent year as the attracted attention wears out over time in the long run.
The paper tests this “investor attention hypothesis” using trading volume and the number of financial analysts covering to proxy for investors’ attention on the firm’s stock. We document five consistent findings.
First, advertising increases a firm’s visibility among investors in the advertising year. Second, an increased level of investor attention is associated with a larger contemporary stock return and a smaller future stock return. Third, the effect of advertising on stock returns is stronger in firms with more visibility in the advertising year.
In particular, when a high advertising firm attracts more investor attention in the stock market, the stock return of the high advertising firm increases to a larger degree in the contemporary advertising year and decreases to a larger degree in the subsequent years.
However, the stock return of such a high advertising firm decreases to a smaller degree if the attention attracted in the advertising year persists subsequent to the advertising year.
Fourth, the effect of advertising on future stock returns is stronger if investors face a larger cost of arbitrage. Finally, we also find that the advertising effect is stronger for small firms, value firms, and firms with poor ex-ante stock performance or poor ex-ante operating performance.
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Author
Thomas J. Chemmanur
Boston College – Carroll School of Management
An Yan
Fordham University – Gabelli School of Business
Conclusion
In this study by Thomas J. Chemmanur and An Yan, the relationship between advertising, attention dynamics, and stock returns is examined. The research uncovers a distinctive pattern—increased advertising is associated with larger stock returns in the advertising year but results in diminished returns in the subsequent year, even after accounting for other predictors.
The “investor attention hypothesis” posits that advertising attracts attention, leading to an initial stock price increase followed by a decrease as attention wanes over time.
Key findings include the enhancement of a firm’s visibility through advertising, a correlation between heightened attention and larger contemporary stock returns but smaller future returns, and a stronger advertising impact for firms with increased visibility.
Notably, the study identifies that the advertising effect on future stock returns is heightened when investors face larger arbitrage costs. The influence of advertising is particularly pronounced for small firms, value firms, and those with poor ex-ante stock or operating performance.
In conclusion, this research unveils the nuanced dynamics of advertising’s impact on stock returns, emphasizing the importance of understanding the interplay between advertising, investor attention, and subsequent market behaviors.
The insights gained provide practical implications for navigating the complex landscape of advertising and its repercussions on stock performance.
FAQ:
– What is the main focus of the research paper “Advertising, Attention, and Stock Returns” by Thomas J. Chemmanur and An Yan?
The research paper explores the relationship between advertising and stock returns, investigating how increased advertising impacts short-term and long-term stock performance.
– What are the key findings of the study regarding the effect of advertising on stock returns?
The study suggests that increased advertising is associated with higher stock returns during the advertising year but lower returns in the subsequent year, even after controlling for other factors. This effect is attributed to advertising’s impact on investor attention, where advertising attracts short-term attention leading to stock price increases, but that attention tends to dissipate over time, resulting in lower long-term returns.
– What factors influence the strength of the relationship between advertising and stock returns, according to the research?
The research indicates that the strength of the relationship between advertising and stock returns is influenced by the visibility of firms, the cost of arbitrage faced by investors, and specific characteristics of firms, such as size, value orientation, and pre-advertising stock or operating performance. The effect of advertising on stock returns is notably stronger for firms with higher visibility and particular characteristics.
