The Return Predictability of Trends
The gambler's fallacy in Rabin (2002) predicts that trends bias investor expectations. We find that trends in earnings are a robust predictor of risk-adjusted returns, with the underreaction of investors to trends providing empirical support for the gambler's fallacy. The return predictability of trends is not attributable to the autocorrelation in earnings surprises nor the magnitude of earnings surprises. Instead, trends explain more than half of the post-earnings announcement drift in our sample.