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Lottery-type stocks and corporate strategies at the turn of the month

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Abstract

We show that retail investors’ cyclical demand for lottery stocks, which tends to peak at the turn-of-the-month (ToM), has implications for firms’ financial activities. Consistent with the notion that the peak in demand is driven by a propensity to gamble that is associated with inattention, we find underreaction to earnings news issued at the ToM by lottery-type firms located in areas with many gambling investors. Lottery-type firms are more likely to issue bad earnings news at ToM, thus benefiting from a less negative price reaction. Similarly, seasoned equity offerings (SEOs) by lottery-type firms are often strategically timed at the ToM, conceivably to take advantage of local retail investors’ underreaction and thereby temper the typically negative immediate stock price reaction to the issuance news. Further suggestive of strategic exploitation of local investors peak in demand at the ToM period, lottery-type firms’ SEOs at the ToM are also more likely to be offered via an accelerated method that saves the direct marketing costs associated with other offer methods.

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Notes

  1. Such lottery-type firms’ stocks have been shown to attract speculative retail investors (e.g., see Kumar 2009; Han and Kumar 2013) and to experience predictable temporal patterns of demand (Doran et al. 2012; Meng and Pantzalis 2018). Specifically, Meng and Pantzalis (2018) show that demand for lottery-type stocks in areas with demographic profiles similar to the typical gambling-minded investor (Kumar 2009) is correlated with the within-month cyclicality of local investors’ personal liquidity positions.

  2. The ToM effect is a well-documented anomaly in the finance literature, where the aggregate stock market tends to perform significantly better during the initial few days of a trading month than during the rest of the month, both in the U.S. market and other markets around the world (see Ariel 1987; Lakonishok and Smidt 1988; Cadsby and Ratner 1992). Some studies show that the ToM effect could be related to liquid profit position of investors (Odgen 1990), and institutional practices (Cadsby and Ratner 1992).

  3. Brennan (1991, p. 70) refers to it as a “most severe challenge to financial theorists.”

  4. The sensitivity is 0.325 − 0.024*1 = 0.301 for ToM days and 0.325 − 0.024*0 = 0.325 for non-ToM days.

  5. There is a long list of past studies that have documented how firms manage earnings through real activities manipulation in addition to accrual-based activities (e.g., Gunny 2010; Roychowdhury 2006; Zang 2012). More relevant to this section, some others have provided evidence of earnings management (e.g., see Teoh et al. 1998; among many others) and earnings management via real activities manipulation around SEOs (e.g., see Cohen and Zarowin 2010).

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Authors and Affiliations

  1. Miller College of Business, Ball State University, Muncie, IN, USA

    Yun Meng

  2. Muma College of Business, University of South Florida, Tampa, FL, USA

    Christos Pantzalis

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  1. Yun Meng
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  2. Christos Pantzalis
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Correspondence to Christos Pantzalis.

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Meng, Y., Pantzalis, C. Lottery-type stocks and corporate strategies at the turn of the month. Rev Quant Finan Acc 56, 1027–1055 (2021). https://doi.org/10.1007/s11156-020-00917-6

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