When Some Investors Head for the Exit

Abstract:     
We develop a measure of binding short-sales constraints in equity markets derived from Chen, Hong, and Stein (2002)'s breadth of mutual fund ownership. We show that when the exit rate, the fraction of investors that held a stock in the previous quarter and that exit that stock this quarter, is high, short-sales constraints are more tightly binding and price is high relative to fundamentals. In contrast, entry of investors that have not previously owned the stock is associated with more not less over-pricing. The exit rate better captures the disagreement distribution of investors in similar fund styles actively evaluating a stock. Using equity funds and for the first time hedge funds, we show that stocks with high exit rates consistently under-perform the market throughout the entire 1980-2008 sample.

Number of Pages in PDF File: 40

working papers series