The efficient markets legend, season 53, episode 8:
In earlier episodes, we have seen that new information is more slowly incorporated into stock prices following days with a large number of earnings announcements. Juggling information may be demanding for busy investors, it seems.
We have also seen that it takes time for new information on a company to trigger renewed assessments of its suppliers. A pivotal scene from a previous episode: Really bad news from a golf equipment retailer did not translate into lower stock prices for a producer of golf club heads until two months later, despite 50% of its revenues going to this single retailer.
Other episodes have been about companies in the same industry or industry segment, with similar technology, sharing the same location, or, as in season 51, being covered by the same sell-side analysts. The market just does not get it straight away.
The frog was introduced in a scene eight years ago, when three researchers demonstrated that the market responds slowly to information that is released in a more continuous stream – and all the more quickly to information that comes in leaps and bounds. With a steady flow of information, it took a full eight months before everything was incorporated into the stock price, compared to only two months with more discrete information.
The role of the frog is fairly obvious. It is said that if you put a frog into boiling water, it will jump out, whereas if the pan is only slowly brought to boil, it won’t notice until it is too late and the frog is dead (in which case it won’t notice either, I suspect). In case you missed it: The stock market played the frog.
In the first frog episode, the news flow was measured indirectly, through the smoothness of the stock price development. However, if instead they focused on analysts’ earnings revisions, the conclusion remained the same. The market had a hard time registering more continuous information.
“In case you missed it: The stock market played the frog.”
The new frog episode takes us back to the scene of the customer-supplier links, demonstrating that the conspicuous lag can be ascribed to more continuous information. In this case, customer stock returns have predictive power for supplier returns, which of course is not supposed to be possible. If, however, the information is more discrete, the market is quicker on the uptake.
In fact, with continuous information, the frog is particularly placid in the case of customer-supplier relationships. The researchers do demonstrate, though, that other linkages, like common industry segment or shared analyst coverage, also reveal signs of frog placidity.
In their own words: It would appear that there is “a frog in every pan."
Finn Øystein Bergh
Chief Economist & Strategist
Source:
“A Frog in Every Pan: Information Discreteness and the Lead-lag Returns Puzzle”
Charles M. C. Lee, Shiyang Huang, Yang Song, Hong Xiang
Journal of Financial Economics, August 2022