Limits-to-Arbitrage in US Penny Stocks: An Overlooked Segment of US Equity Markets

36 Pages Posted: 15 Feb 2015

See all articles by Qianqiu Liu

Qianqiu Liu

University of Hawaii at Manoa - Shidler College of Business

S. Ghon Rhee

University of Hawaii - Shidler College of Business; University of Hawaii - Department of Financial Economics and Institutions

Liang Zhang

University of Hawaii

Date Written: February 13, 2015

Abstract

This paper investigates a largely overlooked segment of U.S. equity markets, listed penny stocks. We find that: (i) the average percentage of short interest ratio of listed penny stocks is 14% which is not significantly different from that of NYSE- and NASDAQ-listed stocks ranging from 10% to 20%; and (ii) 29% of the listed pennies are held by institutional investors on average, contradicting the general perception that institutional investors avoid listed penny stocks. These two surprising facts combined with observed extreme illiquidity and high idiosyncratic volatility, all significantly affect abnormal returns from investment in listed penny stocks. We focus on these four factors as an indication of limits-to-arbitrage in explaining unusual valuation of listed penny stocks.

Keywords: Listed Penny Stocks, Asset Pricing Model, Trading Strategies, Short- Sale Constraints, Limits-to-Arbitrage, Institutional Ownership, Idiosyncratic Volatility

JEL Classification: G14, G18

Suggested Citation

Liu, Qianqiu and Rhee, S. Ghon and Zhang, Liang, Limits-to-Arbitrage in US Penny Stocks: An Overlooked Segment of US Equity Markets (February 13, 2015). Asian Finance Association (AsianFA) 2015 Conference Paper. Available at SSRN: https://ssrn.com/abstract=2564798 or http://dx.doi.org/10.2139/ssrn.2564798

Qianqiu Liu

University of Hawaii at Manoa - Shidler College of Business ( email )

2404 Maile Way, E602f
Honolulu, HI 96822
United States
808-956-8736 (Phone)
808-956-9887 (Fax)

S. Ghon Rhee (Contact Author)

University of Hawaii - Shidler College of Business ( email )

2404 Maile Way
C-304, FEI/CBA
Honolulu, HI 96822
United States

University of Hawaii - Department of Financial Economics and Institutions ( email )

United States

Liang Zhang

University of Hawaii ( email )

2404 Maile Way,
Honolulu, HI 96822
United States

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