Liquidity Provision and Informed Trading by Individual Investors

Abstract

This study examines the relation between individual investor trading and future stock returns in the Australian equity market. We find that the net trading of Australian individual investors is positively related to future returns. We show that this association is driven by individual investors who play the role as liquidity providers. We further document that the proliferation of algorithmic trading in recent years dampens the relation between individual trading and future returns. Finally, we present evidence that the net individual trading prior to earnings announcements predicts post-announcement returns. This prediction, however, is only observed for individual investors using full-service brokers.

Keywords: Individual investors, Future stock returns, Algorithmic trading, Liquidity provision, Informed trading

JEL Classification: G10, G20, G24