Abstract
We develop a new measure to examine the effect of the heterogeneity of beliefs among investors on stock returns. Our initial results do not support the information asymmetry hypothesis or the sidelined investor hypothesis (and thus are consistent with the unbiased prices hypothesis). However, since the first two hypotheses make opposite predictions regarding stock returns, they may both have merit but offset one another. Further analysis suggests that this is indeed the case. Overall, our results support both the information asymmetry and sidelined investor hypotheses and thus occupy middle ground in the debate on the effect of disagreement on stock returns.
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Notes
For the purposes of this paper, it is immaterial if the number of buyers is greater than the number of sellers or vice versa. This is because we are concerned about the difference in opinion among traders rather than their actual preferences with respect to buying or selling. In addition, the use of absolute values aids the analysis in the next section.
We agree with the argument that stronger belief in a private signal will manifest itself in more buying or selling by an institution. Thus, the number of shares bought or sold may provide additional information. We believe our simpler measure performs as well and has the additional benefit that it helps us focus on the more fundamental issue of disagreement by removing the effect of greater dollar holdings by an institution.
We also used a more liberal 10 % increase to proxy for seasoned equity offerings. This does not materially affect our results.
We also conducted various dependent sorts on firm size and institutional ownership. The results we obtained were very similar to those of the two independent sorts reported in Table 5.
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Hobbs, J., Lee, H.W. & Singh, V. New evidence on the effect of belief heterogeneity on stock returns. Rev Quant Finan Acc 48, 289–309 (2017). https://doi.org/10.1007/s11156-016-0551-7
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DOI: https://doi.org/10.1007/s11156-016-0551-7
Keywords
- Institutional investors
- Divergence of opinion
- Sidelined investors
- Shorting constraints
- Information asymmetry
- Unbiased prices