AN UNOBSERVED COMPONENT PANEL-DATA MODEL TO STUDY THE EFFECT OF EARNINGS SURPRISES ON STOCK-PRICES, TRADING VOLUMES, AND SPREADS

Previous empirical work on the effect of earnings announcements on tra ding volume and bid-ask spreads relied on OLS estimation of equations using price changes or errors in analysts' earnings forecasts as proxi es for the unobserved earnings surprises. We show that this leads to s ubstantial errors in variables biases (which account for the often ins ignificant relationships found earlier). We estimate an unobserved com ponents model by instrumental variable method using both these variabl es as proxies. The results show significant effects of earnings surpri ses on price, volume, and bid-ask spreads.