Economic Links from Bonds and Cross-Stock Return Predictability

50 Pages Posted: 28 Mar 2022 Last revised: 23 Oct 2022

See all articles by Jian Feng

Jian Feng

HKU Business School, The University of Hong Kong

Xiaolin Huo

Renmin University of China

Xin Liu

School of Finance, Renmin University of China

Yifei Mao

Cornell University - SC Johnson College of Business - Finance Department

Hong Xiang

The Hong Kong Polytechnic University

Date Written: March 2, 2022

Abstract

Identifying firms linked economically through the comovement of the credit rating of their corporate bonds, we find that a long-short strategy for stocks based on the link generates a risk-adjusted alpha of 0.62 percent per month, which cannot be explained by industry, customer-supplier, single- to multi-segment, foreign, technology, geographic, or shared analyst coverage links documented in the literature. The cross-return predictability is not significant in the bond market, and is mitigated in the presence of cross-holding investors. Furthermore, analysts are slow to update their forecasts in response to news regarding bond-linked peer firms. Overall, our results are consistent with limited investor attention due to market segmentation between the equity and bond markets.

Keywords: Economic linkage, cross-firm return predictability, credit-rating comovement, market segmentation, market inefficiency

JEL Classification: G12, G14, G23, G24

Suggested Citation

Feng, Jian and Huo, Xiaolin and Liu, Xin and Mao, Yifei and Xiang, Hong, Economic Links from Bonds and Cross-Stock Return Predictability (March 2, 2022). Available at SSRN: https://ssrn.com/abstract=4047776 or http://dx.doi.org/10.2139/ssrn.4047776

Jian Feng

HKU Business School, The University of Hong Kong ( email )

Hong Kong
China

Xiaolin Huo

Renmin University of China

59 Zhongguancun Street
Beijing, Beijing 100872
China

Xin Liu (Contact Author)

School of Finance, Renmin University of China ( email )

Room 307A
Mingde Main Building, Renmin University of China
Beijing, Beijing 100872
China

Yifei Mao

Cornell University - SC Johnson College of Business - Finance Department ( email )

Ithaca, NY 14850
United States

Hong Xiang

The Hong Kong Polytechnic University ( email )

Hong Kong
Hong Kong

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