Institutional Consensus After Earnings Announcements: Information or Crowding?

This paper examines information processing skills of institutional investors after earnings releases. If institutions can correctly process earnings signals, their trades should push the price towards the fundamental value. In contrast, if institutions mechanically trade in the news direction, their trading pressure should lead to price overreaction, consistent with predictions of Stein (2009). Overall, our findings reconcile the two opposing views by conditioning the effects of institutional trading on the precision of the earnings signal. We find that institutions are good at processing signals with greater precision, whereas their trades after weaker signals can have destabilizing effects on stock prices.