surprisingly, the price momentum and earnings momentum measures are
positively correlated with one another. The highest correlation (0.44) ob-
tains for the two earnings momentum variables. The correlations of past
six-month returns with standardized unexpected earnings and with analyst
forecast revisions indicate that past earnings surprises and revisions of ex-
pectations about the following year’s earnings are about equal. The less
than perfect correlations suggest, however, that the different momentum
variables do not reflect the same information. Rather, they capture different
aspects of improvement or deterioration in a company’s performance.
B. Two-way AnalysisEarnings and return momentum strategies are individually useful for pre-
dicting stock returns six to twelve months in the future. Because these vari-
ables tend to move together, it is possible that the findings may reflect not
three separate effects but different manifestations of a single effect. For ex-
ample, if earnings momentum, as reflected by SUE, is the direct source of
return predictability, then it should subsume the predictive ability of the
other variables. However, if each of these momentum variables contains
different pieces of information about future returns then each variable
should exhibit incremental predictive ability.
Chan et al. (1996, 2000) address this issue with predictability tests
based on two-way classifications. At the beginning of each month, they sort
stocks on the basis of their past six-month returns and assign them to one
of three equal-sized portfolios. Independently, they sort stocks into three
382 JEGADEESH AND TITMAN
Table 10.12
Correlations among Prior Six-month Return and
Earnings Momentum Variables
This table presents the correlations among stock re-
turn over the prior six months (R6), standardized
unexpected earnings (the change in the most recent
past quarterly earnings per share from its value four
quarters ago), scaled by the standard deviation of
unexpected earnings over the past eight quarters
(SUE), and a moving average of the past six months’
revisions in IBES median analyst earnings forecasts
relative to beginning-of-month stock price (REV6).R6 SUE REV6
R6 1.00
SUE 0.29 1.00
REV6 0.29 0.44 1.00
Source: Chan, Jegadeesh, and Lakonishok, 1996.