Earnings Metrics and Asymmetric Motivated Reasoning Among Long and Short Investors

In two studies, we extend research on boundedly rational investors’ use of earnings information. Study 1, a reanalysis of data from Elliott, Hobson and White’s (2015) laboratory markets, examines how directional goals from holding a long or short position in a firm’s stock interact with earnings presentation to give rise to motivated reasoning in investors’ trading decisions. Results indicate that traders holding a long position selectively overestimate the impact of transitory earnings on value when such items are prominently disclosed and are consistent with long traders’ incentivized directional preferences for higher earnings. This finding offers a new perspective on when and how long investors are likely to misinterpret earnings information. Unexpectedly, short traders do not exhibit motivated reasoning despite incentives that are symmetric with those of long traders. Study 2 utilizes a novel setting to test an explanation for this asymmetry between long and short investors’ reasoning processes. We find that a familiar contextual goal dampens the effect of a conflicting incentivized goal on judgments. Insofar as investors generally attune to a conventional preference for increasing market prices, this evidence provides a compelling explanation for asymmetric effects of directional goals on long and short investors’ judgments and decisions.