What is Earnings Response Coefficient (ERC)?
This is the estimated change in a company's stock price due to any unexpected statements in its earnings announcement.
Key takeaways
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Earnings Response Coefficient measures the estimated change in a company's stock price resulting from unexpected statements in its earnings announcement.
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ERC is commonly used in arbitrage trading to help traders estimate stock price changes and identify potential exploitation opportunities.
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Based on arbitrage pricing theory, equity prices have a theoretical relationship with available information, meaning unexpected earnings drive market reactions.
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Positive earnings surprises can lead to increased share buying, while low earnings announcements may trigger selling panic among investors.
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Earnings response coefficients are utilized in positive accounting to predict accounting practices by describing theoretical market reactions to information.
Where have you heard about Earnings Response Coefficient (ERC)?
You might have heard about it being used in arbitrage trading. It can help arbitrage traders estimate how much a stock price might change and how to exploit this.
What you need to know about Earnings Response Coefficient (ERC).
Arbitrage pricing theory tells us that equity prices share a theoretical relationship with the information available to investors. This means that if a company reveals unexpected earnings, it can lead to more people buying its shares. However, the announcement of low earnings may lead to a selling panic. Earnings response coefficients are often used in positive accounting, which tries to predict accounting practices, because they theoretically describe how markets react to different information.
Find out more about Earnings Response Coefficient (ERC).
Our guide to capital asset pricing model has more information about the relationship between risk and expected return.