Local Demand Shocks, Excess Comovement and Return Predictability

61 Pages Posted: 2 Mar 2013 Last revised: 26 Feb 2023

Date Written: June 5, 2020


I investigate the importance of local demand shocks on excess comovements and return predictability for 4560 twin-pairs of Exchange-Traded Funds (ETFs) from 15 country-pairs. The returns on ETFs traded in the same country comove excessively with one another. These comovements are stronger for funds with greater liquidity and more competitors in the local market. In contrast, comovements are not materially different among ETFs that are attractive to fundamental (factor) investors. A local measure of mispricing, based on price-deviations between ETFs and their foreign peers, strongly predicts ETF return reversals. Betting against local mispricing yields significant abnormal returns of up to 20 percent per year after trading costs.

Keywords: Preferred Habitat; Correlated Demand; Mispricing; Arbitrage; Comovement; Return Predictability.

JEL Classification: G12, G14, G15, G23

Suggested Citation

Broman, Markus S., Local Demand Shocks, Excess Comovement and Return Predictability (June 5, 2020). Journal of Banking and Finance, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2227004 or http://dx.doi.org/10.2139/ssrn.2227004

Markus S. Broman (Contact Author)

Ohio University ( email )

College of Business, Finance Department
Copeland Business Annex 207
Athens, OH 45701-2979
United States

HOME PAGE: http://www.markusbroman.com

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