Endogenous Investor Inattention and Price Underreaction to Information
61 Pages Posted: 3 Oct 2017 Last revised: 4 Jan 2020
Date Written: November 16, 2018
I show that endogenous investor inattention – investors allocating cognitive resources based on incentives – can explain substantial price underreaction to public information in corporate bond and stock markets. The key evidence is that prices under- react less to more payoff-relevant risks. For instance, corporate bonds with worse credit quality react faster to default-relevant news, while those with longer duration react faster to Treasury yield changes. Investors appear to face binding attention constraints. My findings imply that models in which agents endogenously allocate attention may be useful in understanding investor inattention, a phenomenon often thought of as only reflecting investor mistakes.
Keywords: Investor inattention, Price underreaction, Information processing
JEL Classification: G12, G14, G41
Suggested Citation: Suggested Citation