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What Drives Intraday Reversal? Illiquidity or Liquidity Oversupply?

50 Pages Posted: 12 Oct 2021 Last revised: 2 Aug 2022 Publication Status: Published

See all articles by Junqing Kang

Junqing Kang

Sun Yat-sen University (SYSU) - Lingnan (University) College

Shen Lin

affiliation not provided to SSRN

Xiong Xiong

College of Management and Economics and China Center for Social Computing and Analytics

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Abstract

Previous studies of the U.S. market regard short-term reversal as compensation for liquidity provision. However, we find that intraday reversal has no significant dependence on stock liquidity for the Chinese market. Hence, based on a stylized framework, we propose an alternative explanation: uninformed retail traders, who underestimate the information component in equilibrium price due to physiological anchor, trade against previous price movement, generating an opposing price pressure. The empirical results confirm this liquidity oversupply explanation. The negative correlation between previous intraday returns and future returns in the Chinese market is reversed once we extend the holding period. This indicates that reversal is a pricing error due to excessive liquidity provision from uninformed retail traders instead of a price correction from a temporary price concession due to lack
of liquidity.

Keywords: Intraday reversal, liquidity, Chinese market

Suggested Citation

Kang, Junqing and Lin, Shen and Xiong, Xiong, What Drives Intraday Reversal? Illiquidity or Liquidity Oversupply?. Available at SSRN: https://ssrn.com/abstract=3940834

Junqing Kang

Sun Yat-sen University (SYSU) - Lingnan (University) College ( email )

135 Xingang Xi Road
Guangzhou, Guangzhou 510275
China

Shen Lin (Contact Author)

affiliation not provided to SSRN

Xiong Xiong

College of Management and Economics and China Center for Social Computing and Analytics ( email )

92, Weijin Road
Nankai District
Tianjin, Tianjin 300072
China

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