Investor type trading behavior and trade performance: Evidence from the Thai stock market

This paper examines the trading behavior and decomposes the trading performance of foreign, individual and institutional investors as well as proprietary traders in a dynamic emerging stock market, the Stock Exchange of Thailand. Foreign investors follow a positive feedback, momentum strategy and are good short term market timers but have poor security selection performance in poor markets, thus suggesting that they have a macro (market timing) but not a micro (security selection) informational advantage relative to local investors. Institutions and proprietary traders have poor security selection trading performance. Individuals display herding behavior and have fairly good security selection performance, but individual investors appear to compensate proprietary traders for the provision of short term liquidity by proprietary traders, so individuals' security selection gains are canceled out by market timing losses.     

Local market makers, liquidity and market quality

We examine the role of geographically proximate (local) market makers in providing liquidity and improving the quality of a dealer market. Firms with active participation of local dealers enjoy lower quoted and effective spreads, as well as more informative prices. The beneficial effects from local market makers are not confined to a few “top” local dealers and they cannot be attributed to their participation in the firm's IPO syndicate or industry specialization. Further, we find that days with aggressive bidding from local market makers relative to their non-local counterparts are associated with significant positive abnormal returns, consistent with local market makers possessing information advantages. In summary, our results suggest that the information advantages of local market makers may be a contributing factor to the reduction in the cost of trading.     

Perks and the informativeness of stock prices in the Chinese market

While the literature shows that perks can affect firm values positively or negatively, we argue that firms with higher perks are more likely to be associated with a lower quality of financial reporting, which, in turn, can affect the informativeness of stock prices. Based on hand-collected data on perks from Chinese listed firms, we find that firms with lower perks are associated with higher informativeness of stock prices (or lower R-square). Moreover, the positive association between perks and R-square is shown to be weaker for firms with higher financial reporting quality through audit and earnings quality measures.     

Macroeconomic risk and the cross-section of stock returns

We develop a conditional version of the consumption capital asset pricing model (CCAPM) using the conditioning variable from the cointegrating relation among macroeconomic variables (dividend yield, term spread, default spread, and short-term interest rate). Our conditioning variable has a strong power to predict market excess returns in the presence of competing predictive variables. In addition, our conditional CCAPM performs approximately as well as Fama and French’s (1993) three-factor model in explaining the cross-section of the Fama and French 25 size and book-to-market sorted portfolios. Our specification shows that value stocks are riskier than growth stocks in bad times, supporting the risk-based story.     

Control-ownership wedge and investment sensitivity to stock price

This study examines whether insiders’ incentives for private control benefits affect investment sensitivity to stock price. While Chen et al. (2007) link stock price informativeness to firms’ learning from the stock market, we offer an alternative agency-cost based explanation. Using a total of 2822 firms from 22 countries in East Asia and Western Europe, we document a strong negative association between control-ownership wedge and investment-q sensitivity, suggesting that insiders’ incentives for private control benefit reduce their propensity to listen to the market. Furthermore, the negative impact of wedge on investment-q sensitivity is primarily driven by sub-optimal investments. Overall, we provide evidence that agency problem is an important factor that determines the learning from the stock market in capital allocation.     

The effect of macroeconomic news on stock returns: New evidence from newspaper coverage

Previous literature has produced weak evidence to support the hypothesis that real economic news affects stock returns. This is, in part, attributed to the difficulty of measuring how investors interpret macroeconomic announcements in different economic environments. In this paper, we choose a different approach of measuring macroeconomic news to better estimate its effect on stock returns. Since newspaper stories provide an interpretation of the statistical releases, we choose newspaper stories as our measure of news. Our findings indicate that news about GDP and unemployment does affect stock returns.     

Stock market trading activity and returns around milestones

We study the relation between daily stock market trading activity and the Dow Jones Industrial Average's (DJIA) movement around millenary milestones—numbers that end in three zeros. We find aggregate turnover to be 5% lower when the DJIA level is less than 1% away from the nearest milestone. The effect emerges as the DJIA approaches a milestone from below, and is stronger for first-time milestones compared to subsequent passages. The aggregate price impact is large, such that daily stock returns show a negative abnormal performance of − 10 basis points. Our findings suggest that millenary milestones of the DJIA play a role in some investors' decision making.     

Trading frequency and asset pricing on the London Stock Exchange: Evidence from a new price impact ratio

This study proposes a new price impact ratio as an alternative to the widely used Amihud’s (2002) Return-to-Volume ratio. We demonstrate that the new price impact ratio, which is deemed Return-to-Turnover ratio, has a number of appealing features. Using daily data from all stocks listed on the London Stock Exchange over the period 1991–2008, we provide overwhelming evidence that this ratio, while being unequivocal to construct and interpret, is also free of a size bias. More importantly, it encapsulates the stocks’ cross-sectional variability in trading frequency, a relatively neglected but possibly important determinant of stock returns given the recently observed trends in financial markets. Overall, our findings argue against the conventional wisdom that there is a simple direct link between trading costs and stock returns by strongly suggesting that it is the compound effect of trading frequency and transaction costs that matters for asset pricing, not each aspect in isolation.     

Volatility and covariation of financial assets: A high-frequency analysis

Using high frequency data for the price dynamics of equities we measure the impact that market microstructure noise has on estimates of the: (i) volatility of returns; and (ii) variance–covariance matrix of n assets. We propose a Kalman-filter-based methodology that allows us to deconstruct price series into the true efficient price and the microstructure noise. This approach allows us to employ volatility estimators that achieve very low Root Mean Squared Errors (RMSEs) compared to other estimators that have been proposed to deal with market microstructure noise at high frequencies. Furthermore, this price series decomposition allows us to estimate the variance covariance matrix of n assets in a more efficient way than the methods so far proposed in the literature. We illustrate our results by calculating how microstructure noise affects portfolio decisions and calculations of the equity beta in a CAPM setting.     

Dividend signaling under economic adversity: Evidence from the London Stock Exchange

The signaling or information content hypothesis is amongst the most prominent theories attempting to explain dividend policy decisions. However, no research has, to date, examined the information content of dividends in conjunction with generalized economic adversity. With the majority of the western economies facing the tough reality of the economic recession since late 2007–early 2008, we focus on the possibility of asymmetrical dividend signaling effects between periods of stability and economic adversity. Using data from the London Stock Exchange (LSE), where earnings and dividend news are released simultaneously, we test the dividend signaling hypothesis and the interaction of earnings and dividends under both steady and adverse economic conditions. We document positive and significant average abnormal stock price returns around the dividend/earnings announcements. We also find a significant interaction between economic conditions and the information content of dividends. After testing the dividend signaling hypothesis under both stable and recessionary economic conditions we find that dividends have less information content than earnings in periods of growth and stability, but more in periods of economic adversity.     

Stock market volatility and the crash of 1987: evidence from six emerging markets

This paper studies volatility, risk premia and the persistence of volatility in six emerging stock markets before and after the 1987 stock market crash. The empirical investigation is conducted by means of the GARCH in the mean model (GARCH-M) and monthly data from Argentina, Greece, India, Mexico, Thailand, and Zimbabwe between January of 1976 and August of 1994. Results indicate changes in the ARCH parameter, risk premia and persistence of volatility before and after the 1987 crash. But these noted changes are not uniform and depend upon the individual markets. Factors other than the 1987 crash may also be responsible for the changes.     

The risk in hedge fund strategies: Theory and evidence from long/short equity hedge funds

Theory suggests that long/short equity hedge funds' returns come from directional as well as spread bets on the stock market. Empirical analysis finds persistent net exposures to the spread between small vs large cap stocks in addition to the overall market. Together, these factors account for more than 80% of return variation. Additional factors are price momentum and market activity. Combining two major branches of hedge fund research, our model is the first that explicitly incorporates the effect of funding (stock loan) on alpha. Using a comprehensive dataset compiled from three major database sources, we find that among the three thousand plus hedge funds with similar style classification, less than 20% of long/short equity hedge funds delivered significant, persistent, stable positive non-factor related returns. Consistent with the predictions of the Berk and Green (2004) model we find alpha producing funds decays to “beta-only” over time. However, we do not find evidence of a negative effect of fund size on managers' ability to deliver alpha. Finally, we show that non-factor related returns, or alpha, are positively correlated to market activity and negatively correlated to aggregate short interest. In contrast, equity mutual funds and long-bias equity hedge funds have no significant, persistent, non-factor related return. Expressed differently, L/S equity hedge funds, as the name suggests, do benefit from shorting. Besides differences in risk taking behavior, this is a key feature distinguishing L/S funds from long-bias funds.     

A multi-country test of the Fisher model for stock returns

This article provides a test of the Fisher model, linking expected stock returns and inflation, based on international data. Since the Fisher model is ‘universal’ and calls for a slope of 1 in any country, we improve the testing power by conducting a joint test over eight countries. The pooling of data for several countries seems to reduce the small-sample bias. We test the Fisher model, using an instrumental variable approach, for holding-period horizons ranging from 1–12 months. The Fisher model is not rejected at any horizon: however, the magnitude of the slope coefficient lends stronger support at long horizons. This study using multi-country panel data provides evidence corroborating the finding of Boudoukh and Richardson (1993) that the Fisher model holds at long horizons (5 years), using 180 years of US data.     

Informed momentum trading versus uninformed “naive” investors strategies

We construct a zero net-worth uninformed “naive investor” who uses a random portfolio allocation strategy. We then compare the returns of the momentum strategist to the return distribution of naive investors. For this purpose we reward momentum profits relative to the return percentiles of the naive investors with scores that are symmetric around the median. The score function thus constructed is invariant and robust to risk factor models. We find that the average scores of the momentum strategies are close to zero (the score of the median) and statistically insignificant over the sample period between 1926 and 2005, various sub-sample periods including the periods examined in [Jegadeesh and Titman, 1993] and [Jegadeesh and Titman, 2001]. The findings are robust with respect to sampling or period-specific effects, tightened score intervals, and the imposition of maximum-weight restrictions on the naive strategies to mitigate market friction considerations.     

Announcement effects of convertible bond loans and warrant-bond loans: An empirical analysis for the Dutch market

This study investigates the announcement effects of offerings of convertible bond loans and warrant-bond loans using data for the Dutch market. The event study analysis shows that announcement effects of convertible bonds are associated with positive but insignificant abnormal returns and that announcements of warrant-bonds are associated with significant positive abnormal returns. These findings are similar to the results for Japanese hybrid debt, as reported by Kang et al. (1995) (Kang, J.K., Kim, Y.C., Park, K.J., Stulz, R.M., 1995. Journal of Financial and Quantitative Analysis, pp. 257–270) and Kang and Stulz (1996) (Kang, J.K., Stulz, R.M., 1996. Review of Financial Studies, pp. 109–139), but they contrast with studies for the United States that generally find significant negative abnormal returns for convertible bond loans and insignificant negative abnormal returns for warrant-bond loans. Our results cannot be attributed to differences in the corporate governance structures of the Netherlands and the United States. We find that the positive abnormal returns for the warrant-bond loans are caused by the packaging of the announcements with other (good) firm-specific news.     

The persistent effects of a false news shock

In September 2008, a six-year-old article about the 2002 bankruptcy of United Airlines' parent company resurfaced on the Internet and was mistakenly believed to be reporting a new bankruptcy filing by the company. This episode caused the company's stock price to drop by as much as 76% in just a few minutes, before NASDAQ halted trading. After the “news” had been identified as false, the stock price rebounded, but still ended the day 11.2% below the previous close. We explore this natural experiment by using a simple asset-pricing model to study the aftermath of this false news shock. We find that, after three trading sessions, the company's stock was still trading below the two-standard-deviation band implied by the model and that it returned to within one standard deviation only during the sixth trading session. On the seventh day after the episode, the stock was trading at the level predicted by the asset-pricing model. We investigate several potential explanations for this finding, but fail to find empirical evidence supporting any of them. We also document that the false news shock had a persistent negative effect on the stock prices of other major airline companies. This is consistent with the view that contagion effects would have dominated competitive effects had the bankruptcy actually taken place.     

Strategic trading by index funds and liquidity provision around S&P 500 index additions

We examine the trades of index funds and other institutions around S&P 500 index additions. We find index funds begin rebalancing their portfolios with the announcement of composition changes and do not fully establish their positions until weeks after the effective date. Trading away from the effective date is more prevalent for stocks with lower levels of liquidity and among large index funds, which is consistent with index funds accepting higher tracking error in order to reduce the price impact of their trades. Small and mid-cap funds provide liquidity to index funds around additions, and added stocks with a greater proportion of these natural liquidity providers experience lower inclusion returns.     

Good news, bad news and rating announcements: An empirical investigation

In this paper we employ a new approach to test the contribution of information in rating announcements. This is the first study to test and corroborate how the CDS market responds to rating actions after controlling for the presence of concurrent public and private information. We show that since the clustering of rating announcements characterizes economically significant developments, the common practice of using “uncontaminated” samples underestimates market response. As in previous studies, we find that the market response to bad news is stronger than to good news. Nevertheless, bad news and negative rating announcements tend to cluster. Therefore, the residual contribution of negative rating announcements is small and in some cases insignificant. Positive rating announcements are less frequent and less clustered, though their residual contribution is still significant.     

Conditional beta pricing models: A nonparametric approach

We propose a two-stage procedure to estimate conditional beta pricing models that allows for flexibility in the dynamics of asset betas and market prices of risk (MPR). First, conditional betas are estimated nonparametrically for each asset and period using the time-series of previous data. Then, time-varying MPR are estimated from the cross-section of returns and betas. We prove the consistency and asymptotic normality of the estimators. We also perform Monte Carlo simulations for the conditional version of the three-factor model of Fama and French (1993) and show that nonparametrically estimated betas outperform rolling betas under different specifications of beta dynamics. Using return data on the 25 size and book-to-market sorted portfolios, we find that the nonparametric procedure produces a better fit of the three-factor model to the data, less biased estimates of MPR and lower pricing errors than the Fama–MacBeth procedure with betas estimated under several alternative parametric specifications.     

A computing bias in estimating the probability of informed trading

This study identifies a factor that leads to a bias in estimating the probability of informed trading (PIN), a widely-used microstructure measure. It is shown that, along with the numerical maximization of the likelihood function for PIN, the floating-point exception (i.e., overflow or underflow) may eliminate feasible solutions to the actual parameters in the optimization problem. Approximately 44% of PIN estimates for recent stock market data may have been subject to a downward bias that is more pronounced for active stocks than for inactive stocks. This study develops a remedy to mitigate the resulting bias.