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Comomentum: Inferring Arbitrage Activity from Return Correlations

Author

Listed:
  • Dong Lou
  • Christopher Polk

Abstract

We propose a novel measure of arbitrage activity to examine whether arbitrageurs can have a destabilizing effect on the stock market. We focus on stock price momentum, a classic example of a positive-feedback strategy that our theory predicts can be destabilizing. Our measure, dubbed comomentum, is the high-frequency abnormal return correlation among stocks on which a typical momentum strategy would speculate. When comomentum is low, momentum strategies are stabilizing, reflecting an underreaction phenomenon that arbitrageurs correct. When comomentum is high, the returns on momentum stocks strongly revert, reflecting prior overreaction from crowded momentum trading that pushes prices away from fundamentals.Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

Suggested Citation

  • Dong Lou & Christopher Polk, 2022. "Comomentum: Inferring Arbitrage Activity from Return Correlations," The Review of Financial Studies, Society for Financial Studies, vol. 35(7), pages 3272-3302.
    • Handle: RePEc:oup:rfinst:v:35:y:2022:i:7:p:3272-3302.
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    File URL: http://hdl.handle.net/10.1093/rfs/hhab117
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    Citations

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    Cited by:

    1. Huang, Shiyang & Liu, Xin & Lou, Dong & Polk, Christopher, 2023. "The booms and busts of beta arbitrage," LSE Research Online Documents on Economics 120807, London School of Economics and Political Science, LSE Library.
    2. Liu, Xin & Qiu, Zhigang & Shen, Luyao & Zheng, Weinan, 2023. "Coreversal: The booms and busts of arbitrage activities in China," Journal of Empirical Finance, Elsevier, vol. 71(C), pages 51-65.
    3. Hsiao-Peng Fu & Shu-Fan Hsieh, 2024. "Seasonality, Monetary Supply and Taiwanese Momentum," Journal of Applied Finance & Banking, SCIENPRESS Ltd, vol. 14(2), pages 1-2.

    More about this item

    JEL classification:

    • G02 - Financial Economics - - General - - - Behavioral Finance: Underlying Principles
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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