Trend Factor in China: The Role of Large Individual Trading

Abstract

We propose a 4-factor model for the Chinese stock market by adding a trend factor into the market, size, and value of Liu, Stambaugh, and Yuan’s (2019) 3-factor model. Because of up to 80% of individual trading, the trend factor captures salient relevant price and volume trends, and earns a monthly Sharpe ratio of 0.48, much greater than that of the market (0.11), size (0.20), and value (0.28). The 4-factor model explains well a number of stylized facts and anomalies of the Chinese stock market. It also explains well mutual fund returns, serving as an analogue of Carhart’s (1997) model in China.

Keywords: Chinese Stock Market, Individual Trading, Factor Model, Anomalies, Mutual Funds

JEL Classification: G12, G14, G15