Deviations From Norms and Informed Trading

Abstract:     
This paper proposes and tests the conjecture that sophisticated individuals deviate from established personal and social norms only when the perceived benefits are sufficiently large. We apply this broad idea to the context of institutional investing and predict that norm-constrained investors deviate from norms when they have compelling information. Consequently, they should earn higher abnormal returns from those investments. We test this prediction using norms against gambling and holding "sin" stocks. Consistent with our conjecture, we find that when gambling-averse institutions invest in lottery-type stocks, they earn higher abnormal returns on their lottery stock holdings, outperforming the holdings of gambling-tolerant institutions. Similarly, institutions that are averse to holding sin stocks earn higher abnormal returns on those they choose to hold. Overall, these results indicate that deviations from established social norms can be used to identify informed investing.

Number of Pages in PDF File: 62

Keywords: Institutional investors, informed trading, investor tastes, skewness, gambling, sin stocks, social norms

JEL Classification: D14, G11, G14

Accepted Paper Series