Does More Informed Trading Necessarily Lead to Higher Expected Returns?

Abstract

This paper examines the dual effects of informed trading on expected returns: information transmission and information risk. We show that the relationship between informed trading and expected returns can be non-linear in theory and is indeed non-linear empirically. Specifically, the relationship turns out to be U-shaped. Further, we demonstrate that these information effects are more apparent under high information uncertainty i.e. young, volatile, or no analyst coverage stocks.

Keywords: Informed Trading, Asset Pricing, Information Transmission, Information Risk, Information Uncertainty

JEL Classification: G12, G14