Distinguishing between Rationales for Short-Horizon Predictability of Stock Returns

Posted: 24 Nov 2004

See all articles by Avanidhar Subrahmanyam

Avanidhar Subrahmanyam

University of California, Los Angeles (UCLA) - Finance Area; Institute of Global Finance, UNSW Business School; Financial Research Network (FIRN)

Abstract

In this paper, we shed light on short-horizon return reversals. We show theoretically that a risk-based rationale for reversals implies a relation between returns and past order flow, whereas a reversion in beliefs of biased agents does not do so. The empirical results indicate that returns are more strongly related to own-return lags than to lagged order imbalances. Thus, the evidence suggests that monthly reversals are not completely captured by inventory effects and may be driven, in part, by belief reversion. We do find that returns are cross-sectionally related to lagged imbalance innovations at horizons longer than a month.

Keywords: Market efficiency, order imbalance, trading activity

JEL Classification: G12, G14

Suggested Citation

Subrahmanyam, Avanidhar, Distinguishing between Rationales for Short-Horizon Predictability of Stock Returns. Financial Review, Vol. 40, No. 1, February 2005. Available at SSRN: https://ssrn.com/abstract=622881

Avanidhar Subrahmanyam (Contact Author)

University of California, Los Angeles (UCLA) - Finance Area ( email )

Los Angeles, CA 90095-1481
United States
310-825-5355 (Phone)
310-206-5455 (Fax)

Institute of Global Finance, UNSW Business School

Sydney, NSW 2052
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

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