Political Uncertainty and Financial Market Quality

54 Pages Posted: 12 Apr 2014 Last revised: 18 Apr 2014

See all articles by Paolo Pasquariello

Paolo Pasquariello

University of Michigan, Stephen M. Ross School of Business

Christina Zafeiridou

University of Michigan - Stephen M. Ross School of Business

Date Written: April 2014

Abstract

We examine the effects of political uncertainty surrounding the outcome of U.S. presidential elections on financial market quality. We postulate those effects to depend on a positive relation between political uncertainty and information asymmetry among investors, ambiguity about the quality of their information, or dispersion of their beliefs. We find that market quality deteriorates (trading volume and various measures of liquidity decrease) in the months leading up to those elections (when political uncertainty is likely highest), but it improves (trading volume and liquidity increase) in the months afterwards. These effects are more pronounced for more uncertain elections and more speculative, difficult-to-value stocks (small, high book-to-market, low beta, traded on NASDAQ, or in less politically sensitive industries), but not for direct proxies of the market-wide extent of information asymmetry and heterogeneity among market participants (accruals, analysts' forecast dispersion, and forecast error). These findings provide the strongest support for the predictions of the ambiguity hypothesis.

Keywords: Political Uncertainty, Market Quality, Trading Volume, Liquidity, Price Impact

JEL Classification: D80, G0, G12, G14

Suggested Citation

Pasquariello, Paolo and Zafeiridou, Christina, Political Uncertainty and Financial Market Quality (April 2014). Ross School of Business Paper No. 1232. Available at SSRN: https://ssrn.com/abstract=2423576 or http://dx.doi.org/10.2139/ssrn.2423576

Paolo Pasquariello (Contact Author)

University of Michigan, Stephen M. Ross School of Business ( email )

709 Tappan Street
Room R4434
Ann Arbor, MI 48109
United States
734-764-9286 (Phone)
240-526-7168 (Fax)

HOME PAGE: http://webuser.bus.umich.edu/ppasquar/

Christina Zafeiridou

University of Michigan - Stephen M. Ross School of Business ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States

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