Non‐Tradable Share Reform,Liquidity, and Stock Returns in China

This article studies the influence of the non‐tradable share reform in the cross‐section of stock returns in China. Prior research has generally neglected this important development in the Chinese stock market. We find that the firm‐specific illiquidity measures that reflect direct transaction costs, price impact and difficulties in trading immediacy, exhibit a positive and significant relationship with stock returns. These effects are particularly pronounced after the non‐tradable share reform. Furthermore, in the post‐reform era, portfolios with high illiquidity (i.e. high relative bid–ask spread, high Amihud illiquidity, low Amivest liquidity ratio) significantly outperform portfolios with low illiquidity, controlling for size, and book‐to‐market effects.     

Is there an illiquidity premium in frontier markets?

We perform a comprehensive examination of the role of stock-level liquidity in the cross-section of frontier market stock returns. Using several popular liquidity measures and a battery of asset pricing tests, we investigate the illiquidity premium in 22 countries for the years 1991–2019. Contrary to typical relationships in developed and emerging markets, we find no evidence of illiquidity premium in frontier equities. Our findings support the hypothesis that for countries not fully integrated with the global economy, the diversification benefits offset the illiquidity, which, in turn, proves less important.     

The anatomy of financial crises: Evidence from the emerging ADR market

We study the anatomy of recent financial crises in Mexico, East Asia, Russia, Brazil, Turkey, and Argentina by investigating the efficiency and pricing of the emerging American depositary receipt (ADR) market. We use a non-parametric technique to test for persistent regime shifts in two basic structural relationships for ADR returns in 20 emerging countries — identified via arbitrage and capital mobility considerations — that should always hold in efficient and integrated capital markets. We find that those “normal” market conditions were instead often violated in proximity of financial crises: The law of one price often weakened (by 54% on average) and domestic sources of risk became more important (often by more than 100%) for many emerging ADRs. We also find the likelihood of these regime shifts to be related to proxies for uncertainty among investors, exchange rate volatility, trade linkages, and liquidity (but not stock market trends, currency devaluations, capital flight, or capital controls).     

The Interrelationship Between Macroeconomic Variables and Stock Prices-The Case of China

ABSTRACT

Prior studies of industrialized countries have found that a definite relationship exists between the stock market returns and macroeconomic variables such as inflation and real output. This paper investigates the effects of changes in the consumer price index on industrial production and stock market returns for China. Six different types of Chinese shares are examined for the period 1994–1998. The results show a very significant positive relationship between inflation and real output. A positive and significant association is found between stock returns and real output in current periods. Inflation seems to have no impact on Chinese real stock returns. These relationships all hold for “B” shares, “H” shares and red chips. China's “A” share returns seem not to be impacted by either changes in domestic inflation or real industrial production.     

A further look at transaction costs,short sale restrictions,and futures market efficiency: The case of Korean stock index futures

Persistent underpricing in the Korean stock index futures market is documented and alternative explanations are examined. No-arbitrage pricing bands are computed using alternative sets of transaction costs and short sale restrictions faced by different investor groups. We find that a substantial portion of the mispricing can be explained by these factors, though a high incidence of mispricing remains after accounting for costs faced by the marginal trader group—the KSE exchange members. We also observe frequent underpricing of futures during periods of downward market trends. This is attributed in part because of unique restrictions on short sales and accounting conventions in the Korean market. In addition, tests of alternative futures pricing models are conducted that provide mixed results. Though we do not reject the standard cost-of-carry model, an equilibrium pricing model provides reasonable explanatory power. Further, use of the cost-of-carry model does not appear to be driving the findings of persistent underpricing. © 1999 John Wiley & Sons, Inc. Jrl Fut Mark 19: 153–174, 1999     

Stock price informativeness and analyst coverage

We examine whether more analyst coverage translates into more informative stock prices and apply this to both developed and emerging markets. We measure price informativeness using the association between current stock returns and future earnings. We argue that more informative stock prices contain more information about future earnings. Results indicate that analysts' activities do not contribute to the impounding of future earnings information into current stock prices, in accordance with the view that analysts are outsiders who do not have full access to firm‐level information. We also find that analysts specialize according to industry and that “industry expertise” is limited to developed countries. Overall, our evidence is consistent with the explanation that analysts focus on gathering and mapping industry‐ and market‐level information (macroeconomic information) into stock prices. Copyright © 2013 ASAC. Published by John Wiley & Sons, Ltd.     

Are stocks dumped or neglected by analysts' inferior investments to covered stocks?

We compare the long-term stock price and operating performance of firms that are followed by analysts to those that are not over the period of 1994-2005. While analysts are skillful in identifying quality firms for coverage, the market is efficient in pricing both covered and neglected stocks such that risk-adjusted stock returns are compatible between the two groups. However, dumped stocks consistently outperform covered stocks with significant risk-adjusted returns across different market conditions and regulatory environments. Hence, investors might earn better returns by investing in dumped stocks, but the higher returns may represent compensation for greater search costs and information risk associated with investing in these stocks.     

Asset pricing with heterogeneous beliefs and illiquidity

This paper studies the equilibrium price of an asset that is traded in continuous time between N agents who have heterogeneous beliefs about the state process underlying the asset's payoff. We propose a tractable model where agents maximize expected returns under quadratic costs on inventories and trading rates. The unique equilibrium price is characterized by a weakly coupled system of linear parabolic equations which shows that holding and liquidity costs play dual roles. We derive the leading‐order asymptotics for small transaction and holding costs which give further insight into the equilibrium and the consequences of illiquidity.     

Machine learning and the cross-section of emerging market stock returns

This paper compares various machine learning models to predict the cross-section of emerging market stock returns. We document that allowing for non-linearities and interactions leads to economically and statistically superior out-of-sample returns compared to traditional linear models. Although we find that both linear and machine learning models show higher predictability for stocks associated with higher limits to arbitrage, we also show that this effect is less pronounced for non-linear models. Furthermore, significant net returns can be achieved when accounting for transaction costs, short-selling constraints, and limiting our investment universe to big stocks only.     

The Chinese warrant bubble: A fundamental analysis

We investigate the information content in Chinese warrant prices based on an option pricing framework that incorporates short‐selling and margin‐trading constraints in the underlying stock market. We show that Chinese warrant prices can be explained under this pricing framework. On the basis of this new model, we develop a price deviation measure to quantify stock market investors' unobserved demand for short selling or margin trading due to market constraints. We find that warrant‐price deviations are driven by underlying stock valuation to a great extent. Chinese warrant prices, save for the time around expiration dates, are better characterized as derivatives than as pure bubbles.     

Regime‐switching in stock index and Treasury futures returns and measures of stock market stress

We investigate bivariate regime‐switching in daily futures‐contract returns for the US stock index and ten‐year Treasury notes over the crisis‐rich 1997–2005 period. We allow the return means, volatilities, and correlation to all vary across regimes. We document a striking contrast between regimes, with a high‐stress regime that exhibits a much higher stock volatility, a much lower stock–bond correlation, and a higher mean bond return. The high‐stress regime is associated with higher average values of stock‐implied volatility, stock illiquidity, and stock and bond futures trading volume. The lagged implied volatility from equity‐index options is useful in modeling the time‐varying transition probabilities of the regime‐switching process. Our findings support the notions that: (1) stock market stress can have a material influence on Treasury bond pricing, and (2) the diversification benefits of combined stock–bond holdings tend to be greater during times with relatively high stock market stress. © 2009 Wiley Periodicals, Inc. Jrl Fut Mark 30:753–779, 2010     

Financial market liberalization and the pricing of idiosyncratic risk

We test the impact of idiosyncratic risk on stock returns for emerging markets that experience financial market liberalizations. Idiosyncratic risk is positively associated with returns prior to financial market liberalization, but liberalization diminishes this effect. Moreover, prior to liberalization, the number (concentration) of stocks available in the market is negatively (positively) correlated with the pricing of idiosyncratic risk. The decrease in the pricing of idiosyncratic risk can explain the reduction in the cost of capital around liberalizations. Additionally, the change in the pricing of idiosyncratic risk may be a useful measure of the success of financial market liberalization.     

Market Quality around Macroeconomic News Announcements: Evidence from the US and Canadian Markets

We investigate changes in market quality in the US and Canada during macroeconomic news announcements. We measure market quality in terms of returns dependence, the cost of trading, and pricing errors. Using a sample of cross‐listed stocks and macroeconomic news from both countries, we document that market quality is generally higher in the US than in Canada. The pattern of intraday serial dependence in returns reveals that it takes investors about 5 min less to react to order imbalances in the US than in Canada. We further observe that, around announcement periods, transaction costs increase more in Canada than in the US, suggesting that the US market offers better liquidity. More information is also incorporated into the US market. These results support the view that the US is a prime target for cross‐listing, and are robust to different types of assets and time specifications.     

Markov switching GARCH models of currency turmoil in Southeast Asia

This paper analyzes exchange rate turmoil with a Markov switching GARCH model. We distinguish between two different regimes in both the conditional mean and the conditional variance: “ordinary” regime, characterized by low exchange rate changes and low volatility, and “turbulent” regime, characterized by high exchange rate devaluation and high volatility. We also allow the transition probabilities to vary over time as functions of economic and financial indicators. We find that real effective exchange rates, money supply relative to reserves, stock index returns, and bank stock index returns and volatility contain valuable information for identifying turbulent and ordinary periods.     

Firm boundaries and transaction costs: The complementary role of capabilities

This research addresses five criticisms of Transaction Cost Economics (TCE) as the dominating view of boundary decision as follows. First, “Firm Failure” is conceptualized as a counterpart to “Market Failure”. Second, real variance in opportunism (lack of trustworthiness) substitutes for TCE's assumption of universal marketplace opportunism. Third, transaction costs are included as a mediating variable to investigate the theory's “alleged” causal mechanism. Fourth, “Firm Failure” implies that internal to the firm transaction costs increase when Dynamic Capabilities (DC) are low for insourced activities and decrease when DC is high. Finally, this study of buyer-seller relationships indicates that TCE overemphasizes the role of marketplace transaction costs, and the impact of DC is much greater on firm boundary decisions as TCE and DC explain 21 and 53% of Vertical Integration, respectively. Additionally, a model combining both views explains 63%, illustrating the complementarity of these views for both suppliers and customers.     

Institutional determinants of emerging market returns and flows

Investors commonly rely on macroeconomic variables to drive capital allocation decisions. But other institutional factors may alter investor returns as well, particularly in emerging market countries. Given these concerns, this paper examines the effects of institutional factors—specifically democracy, transparency and corruption—on emerging market equity returns and flows. We find that institutional quality impacts stock market returns and flows in emerging markets where corruption, transparency, and democracy levels are below average. We also find that government-owned or controlled industries are positively impacted by a deterioration in the corruption and democracy indexes, while highly concentrated sectors, like the financial industry, are negatively impacted by improving transparency.     

Stock return predictability of the cumulative abnormal returns around the earnings announcement date: Evidence from China

We find that cumulative abnormal returns adjusted by size, book-to-market, and momentum around the earnings announcement date (DGTW_CAR3 hereafter) significantly and positively predict stock returns in the 6-month period from May 2005 to October 2020 in the China's A-shares market. The monthly equally-weighted DGTW_CAR3 premiums are 0.47% and 0.67% after risk adjustment. Although stock price delay fails to fully account for the DGTW_CAR3 premium, we find that the DGTW_CAR3 premium is more significant for illiquid stocks and during periods with high investor sentiment. This result suggests that market inefficiency explains the DGTW_CAR3 premium. Further analysis shows that, in addition to earnings information, the optimism reflected in the management discussion and analysis section of the annual or half-year report also contributes to the DGTW_CAR3 premium. This finding implies that DGTW_CAR3 may contain new fundamental information that correlates significantly and positively with future stock performance. Finally, we find that the institutional ownership change of a stock associated with DGTW_CAR3 also significantly and positively predicts the stock's return, suggesting that institutional investors adjust their holdings according to DGTW_CAR3 and consequently influence the demand for the stock in the China's A-shares market.     

Further evidence on Asian stock return behavior

This paper examines the relationship between expected stock returns and size, and market-to-book ratio in five Asian emerging markets: India, Korea, Malaysia, Taiwan and Thailand. Overall, we find a strong size effect in all markets and a significant market-to-book effect in Korea, Malaysia and Thailand. When the tests allow for both variables, the negative relationship between size and average return is less robust; the inclusion of market-to-book equity seems to absorb the role of size in Asian stock returns. Our finding for the Asian market applies to the post-1984 period, thus questioning the assertion of Black [J. Portfolio Manage. 20 (1993) 8] and MacKinlay (1995) that “the value premium is sample-specific”. Although small firms have—to a certain extent—higher average returns than large firms in Asian markets, the market-to-book variable seems to have a consistently stronger role in average returns and would suggest that value stocks have higher average returns than growth stocks. Thus, the higher average return on value stocks in the Asian emerging markets can be considered as a local manifestation of a global phenomenon.     

Price discovery in electronic foreign exchange markets: The sterling/dollar market

This study finds that GLOBEX has a marginally lower Hasbrouck, J. (1995) information share than Reuters D3000 in the electronic sterling/dollar foreign exchange market when returns are computed from high frequency data on either midquotes or transaction prices. However, GLOBEX's information share declines sharply when returns are computed from a mixture of GLOBEX transaction prices and Reuters D3000 midquotes. This helps explain why prior studies using this latter methodology report relatively low information shares for GLOBEX in the yen/dollar market. Variations in GLOBEX's information share on an intraday basis can be explained by variations in relative liquidity, spreads and price volatility. © 2009 Wiley Periodicals, Inc. Jrl Fut Mark 30:590–606, 2010     

Asymmetric Post-Announcement Drift to Good and Bad News: Evidence from Voluntary Trading Disclosures in the Chinese Stock Market

This article investigates the post-announcement drift (PAD) of stock returns in the Chinese stock market. We use a sample of voluntary trading disclosures to test the hypothesis that an asymmetric PAD exists in a market in which managers are more likely to suppress negative news. We show that a pattern of short-term momentum and long-term reversal in returns persists for up to 250 trading days following the announcement of trading statements in the Chinese stock market. This finding is stronger for positive announcements in terms of the magnitude and the variance of stock returns. Our findings are in line with both Shin’s theoretical predictions and the credibility hypothesis, in which disclosure and asset returns are jointly determined and the adoption of a “sanitisation strategy” in information disclosure generates more volatile returns for firms issuing good news. Further, we show that the latter effect is more pronounced for firms which are partially state-owned, suggesting that they potentially receive more government support, a finding which is in line with the hypothesis that the incentive to suppress negative information is related to a country’s legal/judicial system.