Correlation Neglect in Asset Prices
We document a strong negative serial correlation between stock market returns in i) the second month of a quarter and ii) the first month of the subsequent quarter. This pattern arises as investors fail to fully recognize the predictably repetitive aggregate earnings “news” conveyed by the late earnings announcements in the second month of a quarter. The neglected correlation leads to overreaction, which is in turn corrected when earnings of a new quarter are announced. Consistent with this hypothesis, returns in the second month of a quarter positively correlate with those of the preceding month, and the return pattern amplifies when earnings announced in these two months are more similar. Survey data and industry-level returns lend further support to this mechanism. These results provide evidence of correlation neglect even among sophisticated, financially incentivized decision-makers, underscoring its importance as a behavioral phenomenon.
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Copy CitationHongye Guo and Jessica Wachter, "Correlation Neglect in Asset Prices," NBER Working Paper 35753 (2026), https://doi.org/10.3386/w35753.Download Citation
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