Investigating the Interaction Between Long-Term Reversal and value on the JSE

Abstract

This study examines the overreaction hypothesis wherein investors overweight current events and underweight historical information. It tests whether price-based overreaction is present on the cross-section of shares on the JSE and further attempts to identify whether overreaction can be used as a blanket theory for both long-term reversal and the value premium. The authors examine monthly price and accounting data of all JSE listed shares over the period 1 January 1998 to 30 June 2013. The results show that profits attributable to historical winner portfolios decline while historical loser portfolios begin generating returns in excess of their winner counterparts as holding periods are extended beyond 12 months. The findings contradict previous literature as the interaction between long-term reversal and value (proxied by book to market) appears to be weak. Over the sample period, the best performing portfolios were the high value, high momentum portfolios while the most consistent evidence of long-term reversal was found in the medium value extreme loser portfolios. This is the first study to investigate the interaction between the value premium and long term reversal on South African data. This study improves on earlier research by employing the zero daily trade liquidity filter and combining price-based and accounting-based tests to isolate the effect of overreaction.

Notes

1 Zero daily trades is the number of days a share did not trade over a given period - there are a small number of shares on the JSE that do not trade for 250 days at a time.