Who Underreacts to Cash-Flow News? Evidence from Trading between Individuals and Institutions

71 Pages Posted: 14 Feb 2002 Last revised: 13 Jul 2022

See all articles by Randolph B. Cohen

Randolph B. Cohen

Harvard Business School - Finance Unit

Paul A. Gompers

Harvard Business School - Finance Unit; Harvard University - Entrepreneurial Management Unit; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Tuomo Vuolteenaho

Arrowstreet Capital, LP; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: February 2002

Abstract

A large body of literature suggests that firm-level stock prices 'underreact' to news about future cash flows, i.e., shocks to a firm's expected cash flows are positively correlated with shocks to expected returns on its stock. We estimate a vector autoregession to examine the joint behavior of returns, cash-flow news, and trading between individuals and institutions. Our main finding is that institutions buy shares from individuals in response to good cash-flow news, thus exploiting the underreaction phenomenon. Institutions are not simply following price momentum strategies: When price goes up in the absence of positive cash-flow news, institutions sell shares to individuals. Although institutions are trading in the 'right' direction, institutions as a group outperform individuals by only 1.44 percent per annum before transaction and other costs, because they are extremely conservative in deviating from the value-weight market index.

Suggested Citation

Cohen, Randolph B. and Gompers, Paul A. and Vuolteenaho, Tuomo, Who Underreacts to Cash-Flow News? Evidence from Trading between Individuals and Institutions (February 2002). NBER Working Paper No. w8793, Available at SSRN: https://ssrn.com/abstract=300755

Randolph B. Cohen

Harvard Business School - Finance Unit ( email )

Boston, MA 02163
United States
617-495-6674 (Phone)
617-496-6592 (Fax)

Paul A. Gompers (Contact Author)

Harvard Business School - Finance Unit ( email )

Boston, MA 02163
United States
617-495-6297 (Phone)
617-496-8443 (Fax)

Harvard University - Entrepreneurial Management Unit ( email )

Cambridge, MA 02163
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

European Corporate Governance Institute (ECGI)

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

HOME PAGE: http://www.ecgi.org

Tuomo Vuolteenaho

Arrowstreet Capital, LP ( email )

44 Brattle St., 5th Floor
Cambridge, MA 02138
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
217
Abstract Views
9,987
Rank
26,986
PlumX Metrics