Abstract
Herding occurs when a group of investors intensively buy or sell the same stock at the same time. This study examines the tendency of individual, institutional and foreign investors to herd in Japan, where the yearly change in ownership is used as a proxy for investor herding. Using 20 years of aggregate data, we examine how investor herding is related to stock return performance around the herding interval. Both institutional and foreign investor herding impact stock prices. Further, Japanese institutional investors seem to follow positive-feedback trading strategies, and subsequent return reversals imply that these investors’ trades destabilize stock prices. On the other hand, foreign investors’ trades are related to information. Our results are robust to the effect of firm size, to portfolio formation methods, to initial ownership levels, and to the chosen time period.
The original article first appeared in the International Review of Finance 2:71–98, 2001. A newly written addendum has been added to this book chapter.
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Notes
- 1.
This may not be the case if other investors underreact to news. Brennan and Cao (1997) argue that foreign investors may appear to be positive-feedback traders but their trade may be related to information if they trade a large volume almost simultaneously, and the market underreacts to news.
- 2.
Nofsinger and Sias (1999) did not include foreign investors in their analysis.
- 3.
The positive relationship between ownership change and returns may be observed when these investors successfully forecast short-term returns.
- 4.
One limitation of these data is that we do not know when the change in ownership takes place during a particular year. Unfortunately, we are unable to obtain shorter holding period data. Monthly and weekly ownership information is not available.
- 5.
We use the PACAP database for our analysis. We subscribe to this database from the Pacific Basin Financial Center at the University of Rhode Island. This database is com parable to CRSP and COMPUSTAT in the USA.
- 6.
In addition to these two sections, the TSE also includes a Foreign Section and the Mothers Section, which specializes in new and small firm stocks. The former includes 29 foreign firms. The latter contains 40 young growing firms started in 2000.
- 7.
The AMEX has recently merged with the NASDAQ.
- 8.
The ownership structure for March firms is not significantly different from that for non-March firms during our sample period.
- 9.
No concentration of fiscal year end in the other months is observed. One exception is retail industry. In addition to March, February is also a popular fiscal year end month for this industry.
- 10.
Although March fiscal year end firms dominate on the TSE, the selection bias may drive our results. In order to investigate if including only firms with a fiscal year ending in March biases our results, we added firms with a fiscal year end from the previous October to the current March to our sample and conducted the same analysis. Though we obtain slightly weaker results because of measurement error, the results do not qualitatively change. Therefore, we report results using firms with a fiscal year ending in March in this chapter. We thank the referee for suggesting this procedure.
- 11.
All the sample firms must have their fiscal year ends in March in at least two consecutive years to compute ownership change.
- 12.
Though Daniel et al. adjust for industry effects, we did not make such adjustment. In addition, we did not take momentum into account because there is no evidence of such an effect in Japan (see Iihara et al. 2004). Chan et al. (1991) document that both firm size and book-to-market are important for pricing stock in Japan. Daniel et al. (2000) examine the Japanese data to see if the characteristic model provides a better description of the cross-sectional variation of stock returns than the three factor model.
- 13.
The institutional investors consist of financial and non-financial firms. This increase is mainly caused by the increase in ownership by financial firms. The share held by financial firms was about 25 % in 1975 and then rose to about 33 %. On the other hand, the share held by not financial firms has been about 30 % during our sample period.
- 14.
Six city-bank-centred keiretsu groups ma y no longer exist in their traditional form in Japan because of mergers among city banks. For example, Fuji merged with Daiichi-Kangyo and Sumitomo merged with Sakura (Mitsui and Taiyo–Kobe). Furthermore, Sanwa plans to merge with Tokai. However, keiretsu analysis may be important because city-bank-centred keiretsu still existed during our sample period.
- 15.
The annual ownership change may be significantly influenced by equity offerings or stock repurchases. Though stock repurchase has not been allowed until recently in Japan, equity offerings are one of the major financing methods used by Japanese firms over the past 15 years. In unreported results, we tested the effect of seasoned equity offerings on our analysis by discarding firms whose change in number of shares outstanding is greater than 10 % from our sample. We repeated this procedure with 20 % as well. In both cases, the results remain qualitatively unchanged. We did not adjust for the effect of delisted firms because the number of delisted firms is very small (about four firms a year in our sample period).
- 16.
Excess values are computed as the difference between the raw value and the cross-sectional average of each variable for the particular year. We calculate size and book-to-market at the beginning of the herding period.
- 17.
As mentioned in footnote 12, institutional investors consist of financial and non-financial firms. We conduct the same analysis using March fiscal year end firms to see if there are any differences between financial and non-financial firms in terms of herding, pre-herding and post-herding returns. Financial firms exhibit stronger patterns than non-financial firms.
- 18.
The results using the equal weighted excess returns are presented. The results do not substantially change when the value weighted excess return are used.
- 19.
Lakonishok et al. (1992) present evidence that pension fund feedback trading is limited to smaller firm stocks.
- 20.
We conducted a similar analysis considering the book-to-market effect. We obtained similar results to the firm size effect analysis. The results for high book-to-market stocks are similar to those of small firm stocks and the results for low book-to-market stocks are similar to those of large firm stocks.
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Acknowledgements
We are grateful to Marc Bremer, Takao Kobayashi, Sheridan Titman and Toshiki Yotsuzuka for their helpful comments. We also thank Ed Skrzypczak for editing the paper.
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Addendum: Worldwide Empirical Studies of Investor Herding in Global Stock Markets
This addendum has been newly written by Toshifumi Tokunaga for this book chapter.
Addendum: Worldwide Empirical Studies of Investor Herding in Global Stock Markets
One of the motivations for our paper was a presentation given by Professor John Nofsinger at the Financial Management Association (FMA) annual meeting held in Hawaii, October 1997. His paper, written with Professor Richard Sias, was elected “Best of the Best Paper” at the meeting. Even now, we distinctly remember that the standees came out to the hall of the Hilton Hawaiian Village Waikiki Beach Resort to listen to his presentation. The paper was titled, “Herding and Feedback Trading by Institutional and Individual Investors,” published in the Journal of Finance in 1999 and now an indispensable prior research and empirical study on herding.
Around 1997, the term “herding” was hardly heard in Japan. Nofsinger and Sias (1999) made a significant contribution to the global development of empirical studies on herding. Several reasons why their paper became important and indispensable for subsequent empirical studies on herding are its simple herding measurement, the explicit interaction among investors, and the easy data collection method. In our paper, which focuses on the foreign investor who played a role that gradually became important in stock price formation in Japan, we analyzed the relationship between stock price movements and herding based on the empirical method of Nofsinger and Sias (1999), and found new evidence of foreign investor behavior.
Table 24.9 summarizes several studies that analyzed herding behavior in the global stock markets. For Asian stock markets, researchers tended to concentrate on foreign investor herding behavior. In addition, some papers report on the asymmetry of herding on the basis of an upward and a downward state of the stock market and a high and low state of market volatility besides others.
The greatest difficulty of empirical analyses on herding behavior is how we measure the magnitude of herding using published trading data. As we mentioned in footnote 3, our data based on financial statements are not precise because herding is then measurable only in 1-year intervals. More detailed data are required to analyze short-term herding behavior. Empirical studies on herding behavior are expected to increase if investor trading data that are measurable at shorter intervals become easily available in Japan.
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Iihara, Y., Kato, H., Tokunaga, T. (2016). Investors’ Herding on the Tokyo Stock Exchange. In: Ikeda, S., Kato, H., Ohtake, F., Tsutsui, Y. (eds) Behavioral Economics of Preferences, Choices, and Happiness. Springer, Tokyo. https://doi.org/10.1007/978-4-431-55402-8_24
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