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Does long-term disequilibrium in stock price predict future returns?

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  • Jungshik Hur
  • Vivek Singh

Abstract

We propose a trading strategy based on error correction term (ECT), the residuals from the cointegration relation between the levels of security and the market portfolio. We find that buying stocks in the top 10 % ECT and selling stocks in the bottom 10 % ECT generates 1.09 % a month for 6-month holding period over 1965–2005. The monthly return increases to 1.57 % when the above trading strategy is applied to stocks with insignificant cointegration with the market portfolio. This profit is robust to three and four factor models. Moreover, this profit is neither driven by small and illiquid stocks nor is the result of any inherent positive serial correlation. Copyright Springer Science+Business Media New York 2013

Suggested Citation

  • Jungshik Hur & Vivek Singh, 2013. "Does long-term disequilibrium in stock price predict future returns?," Review of Quantitative Finance and Accounting, Springer, vol. 41(4), pages 753-767, November.
  • Handle: RePEc:kap:rqfnac:v:41:y:2013:i:4:p:753-767
    DOI: 10.1007/s11156-012-0331-y
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    More about this item

    Keywords

    Stock returns; Cointegration; Market efficiency; G12; G14;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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