Hedge Funds and Stock Price Formation
30 Pages Posted: 2 Aug 2012 Last revised: 16 Aug 2018
Date Written: April 6, 2018
Abstract
Using comprehensive quarterly data on hedge fund stock holdings, we study the role of hedge funds in the process of stock price formation. We find that hedge funds tend to hold undervalued stocks, and that both hedge fund ownership and their trades are positively related to the degree of stock mispricing. A portfolio consisting of undervalued stocks with high hedge fund ownership generates a risk-adjusted return of 0.40% per month (or, 4.8% annually), and the profit stands even after transaction costs. Hedge fund ownership and trades also precede the dissipation of stock mispricing. In contrast, these patterns are either nonexistent or much weaker for other types of institutional investors. Taken together, our results suggest that hedge funds exploit and help correct mispricing, but the process is not instantaneous.
Keywords: Hedge funds, stock holdings, stock mispricing, investment value, arbitrage
JEL Classification: G11, G23
Suggested Citation: Suggested Citation
Do you have negative results from your research you’d like to share?
Recommended Papers
-
Optimal Investment, Growth Options, and Security Returns
By Jonathan Berk, Richard C. Green, ...
-
By Lu Zhang
-
A Cross-Sectional Test of a Production-Based Asset Pricing Model
-
Equilibrium Cross-Section of Returns
By Joao F. Gomes, Leonid Kogan, ...
-
Equilibrium Cross-Section of Returns
By Joao F. Gomes, Leonid Kogan, ...
-
Capital Investments and Stock Returns
By K.c. John Wei, Feixue Xie, ...
-
Capital Investments and Stock Returns
By K.c. John Wei, Feixue Xie, ...
-
Corporate Investment and Asset Price Dynamics: Implications for the Cross-Section of Returns
By Murray Carlson, Adlai J. Fisher, ...
-
By Eugene F. Fama and Kenneth R. French