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Short interest and aggregate stock returns

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  • Rapach, David E.
  • Ringgenberg, Matthew C.
  • Zhou, Guofu

Abstract

We show that short interest is arguably the strongest known predictor of aggregate stock returns. It outperforms a host of popular return predictors both in and out of sample, with annual R2 statistics of 12.89% and 13.24%, respectively. In addition, short interest can generate utility gains of over 300 basis points per annum for a mean-variance investor. A vector autoregression decomposition shows that the economic source of short interest’s predictive power stems predominantly from a cash flow channel. Overall, our evidence indicates that short sellers are informed traders who are able to anticipate future aggregate cash flows and associated market returns.

Suggested Citation

  • Rapach, David E. & Ringgenberg, Matthew C. & Zhou, Guofu, 2016. "Short interest and aggregate stock returns," Journal of Financial Economics, Elsevier, vol. 121(1), pages 46-65.
  • Handle: RePEc:eee:jfinec:v:121:y:2016:i:1:p:46-65
    DOI: 10.1016/j.jfineco.2016.03.004
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    Keywords

    Equity risk premium; Predictive regression; Short interest; Cash flow channel; Informed traders;

    JEL classification:

    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics
    • 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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