45 Pages Posted: 5 Nov 2008
Date Written: October 2003
We consider two broad views of return comovement: the traditional view, derived from frictionless economies with rational investors, which attributes it to comovement in news about fundamental value, and an alternative view, in which market frictions or noise-trader sentiment delink it from comovement in fundamentals. Building on Vijh (1994), we use data on inclusions into the S&P 500 to distinguish these views. After inclusion, a stock's beta with the S&P goes up. In bivariate regressions which control for the return of non-S&P stocks, the increase in S&P beta is even larger. These results are generally stronger in more recent data. Our findings cannot easily be explained by the fundamentals-based view and provide new evidence in support of the alternative friction- or sentiment-based view.
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