Is the mispricing of bank earnings related to financial regulation uncertainty?

Abstract

We examine the impact of financial regulation uncertainty on the mispricing of earnings in the banking sector. To the extent that the uncertainty generated by the regulatory process can trigger opinion divergence (rational attention), we expect it to delay (accelerate) share price responses to banks’ earnings news. Consistent with the dominance of the opinion divergence effect, we show that such uncertainty is positively associated with banks’ post-earnings announcement drift and this effect is stronger among banks that are more sensitive to financial regulatory uncertainty. Further analyses through analyst forecast error, analyst forecast dispersion, and idiosyncratic return volatility provide corroborative evidence of opinion divergence. Our findings remain consistent after a series of robustness tests. Although financial regulations seek to provide capital market stability, our evidence implies that regulatory uncertainty can invoke negative externalities on market information efficiency.