Memory-induced Cross-stock Extrapolation in China

62 Pages Posted: 10 Feb 2025 Last revised: 24 Mar 2025

See all articles by Hongye Guo

Hongye Guo

The University of Hong Kong - University of Hong Kong

Fangzhou Lu

The University of Hong Kong - Department of Finance; Massachusetts Institute of Technology (MIT) - Sloan School of Management

Hanyu Zheng

The University of Hong Kong - Faculty of Business and Economics

Date Written: February 09, 2025

Abstract

We propose a similarity criterion for stocks based on their Euclidean distance over a set of attention-related variables to capture investors' memory of stocks. We find that the average past return of similar-attention stocks exhibits a significantly strong, negative predictive power for the future return of a focal stock, suggesting a cross-stock reversal effect. A long-short strategy based on this cross-stock reversal generates a monthly return of 2.23% and an annualized Sharpe ratio of 1.63. This effect cannot be explained by common factors, including short-term reversal. We further demonstrate that the cross-stock reversal effect stems from investors' memory-based belief and irrational cross-extrapolating trading. The predictability is related to the investor clientele since it appears in markets with more retail investors. 

Keywords: Memory, Cross-stock predictability, Extrapolation, Reversal, Attention

JEL Classification: G11, G12, G14

Suggested Citation

Guo, Hongye and Lu, Fangzhou and Zheng, Hanyu, Memory-induced Cross-stock Extrapolation in China (February 09, 2025). Available at SSRN: https://ssrn.com/abstract=5129987 or http://dx.doi.org/10.2139/ssrn.5129987

Hongye Guo (Contact Author)

The University of Hong Kong - University of Hong Kong ( email )

Pokfulam Road
Hong Kong, Hong Kong
China

Fangzhou Lu

The University of Hong Kong - Department of Finance ( email )

Pokfulam
Hong Kong

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street
E62-416
Cambridge, MA 02142
United States

Hanyu Zheng

The University of Hong Kong - Faculty of Business and Economics ( email )

Pokfulam Road
Hong Kong
China

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