Fundamental Strength and Short-Term Return Reversal

Abstract We document that the fundamental strength (FSCORE) of a firm exerts a significant influence on the performance of short-term reversal strategies. Past losers with strong fundamentals significantly outperform past winners with weak fundamentals. Our FSCORE approach is complementary to Da et al. (2014) cash flow news metrics based on analysts’ forecast revisions in that many firms do not have analyst following. Our approach also seems capable of capturing the lagged effects from past fundamental news shocks. After controlling for fundamental strength, we find that investor sentiment plays a more dominant role than do liquidity shocks in explaining return reversal.