IDEAS home Printed from https://ideas.repec.org/a/eee/jfinec/v132y2019i3p76-96.html
   My bibliography  Save this article

Technological links and predictable returns

Author

Listed:
  • Lee, Charles M.C.
  • Sun, Stephen Teng
  • Wang, Rongfei
  • Zhang, Ran

Abstract

Employing a classic measure of technological closeness between firms, we show that the returns of technology-linked firms have strong predictive power for focal firm returns. A long-short strategy based on this effect yields monthly alpha of 117 basis points. This effect is distinct from industry momentum and is not easily attributable to risk-based explanations. It is more pronounced for focal firms that: (a) have a more intense and specific technology focus, (b) receive lower investor attention, and (c) are more difficult to arbitrage. Our results are broadly consistent with sluggish price adjustment to more nuanced technological news.

Suggested Citation

  • Lee, Charles M.C. & Sun, Stephen Teng & Wang, Rongfei & Zhang, Ran, 2019. "Technological links and predictable returns," Journal of Financial Economics, Elsevier, vol. 132(3), pages 76-96.
    • Handle: RePEc:eee:jfinec:v:132:y:2019:i:3:p:76-96
    DOI: 10.1016/j.jfineco.2018.11.008
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S0304405X18303167
    Download Restriction: Full text for ScienceDirect subscribers only
    File URL: https://libkey.io/10.1016/j.jfineco.2018.11.008?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to look for a different version below or search for a different version of it.

    Other versions of this item:

    References listed on IDEAS

    as
    1. Harrison Hong & Terence Lim & Jeremy C. Stein, 2000. "Bad News Travels Slowly: Size, Analyst Coverage, and the Profitability of Momentum Strategies," Journal of Finance, American Finance Association, vol. 55(1), pages 265-295, February.
    2. Hong, Harrison & Torous, Walter & Valkanov, Rossen, 2007. "Do industries lead stock markets?," Journal of Financial Economics, Elsevier, vol. 83(2), pages 367-396, February.
    3. Adam B. Jaffe & Manuel Trajtenberg & Rebecca Henderson, 1993. "Geographic Localization of Knowledge Spillovers as Evidenced by Patent Citations," The Quarterly Journal of Economics, Oxford University Press, vol. 108(3), pages 577-598.
    4. Malcolm Baker & Jeffrey Wurgler, 2006. "Investor Sentiment and the Cross‐Section of Stock Returns," Journal of Finance, American Finance Association, vol. 61(4), pages 1645-1680, August.
    5. Leonid Kogan & Dimitris Papanikolaou, 2014. "Growth Opportunities, Technology Shocks, and Asset Prices," Journal of Finance, American Finance Association, vol. 69(2), pages 675-718, April.
    6. Lior Menzly & Oguzhan Ozbas, 2010. "Market Segmentation and Cross‐predictability of Returns," Journal of Finance, American Finance Association, vol. 65(4), pages 1555-1580, August.
    7. Nicholas Bloom & Mark Schankerman & John Van Reenen, 2013. "Identifying Technology Spillovers and Product Market Rivalry," Econometrica, Econometric Society, vol. 81(4), pages 1347-1393, July.
    8. Leonid Kogan & Dimitris Papanikolaou & Amit Seru & Noah Stoffman, 2017. "Technological Innovation, Resource Allocation, and Growth," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 132(2), pages 665-712.
    9. Malcolm Baker & Jeffrey Wurgler, 2007. "Investor Sentiment in the Stock Market," Journal of Economic Perspectives, American Economic Association, vol. 21(2), pages 129-152, Spring.
    10. Daniel, Kent, et al, 1997. "Measuring Mutual Fund Performance with Characteristic-Based Benchmarks," Journal of Finance, American Finance Association, vol. 52(3), pages 1035-1058, July.
    11. Kent Daniel & David Hirshleifer & Avanidhar Subrahmanyam, 1998. "Investor Psychology and Security Market Under- and Overreactions," Journal of Finance, American Finance Association, vol. 53(6), pages 1839-1885, December.
    12. David Hirshleifer & Siew Hong Teoh & Jeff Jiewei Yu, 2011. "Short Arbitrage, Return Asymmetry, and the Accrual Anomaly," The Review of Financial Studies, Society for Financial Studies, vol. 24(7), pages 2429-2461.
    13. Hirshleifer, David & Teoh, Siew Hong, 2003. "Limited attention, information disclosure, and financial reporting," Journal of Accounting and Economics, Elsevier, vol. 36(1-3), pages 337-386, December.
    14. Tobias J. Moskowitz & Mark Grinblatt, 1999. "Do Industries Explain Momentum?," Journal of Finance, American Finance Association, vol. 54(4), pages 1249-1290, August.
    15. Terrance Odean, 1998. "Are Investors Reluctant to Realize Their Losses?," Journal of Finance, American Finance Association, vol. 53(5), pages 1775-1798, October.
    16. Beneish, M.D. & Lee, C.M.C. & Nichols, D.C., 2015. "In short supply: Short-sellers and stock returns," Journal of Accounting and Economics, Elsevier, vol. 60(2), pages 33-57.
    17. Gerard Hoberg & Gordon Phillips, 2016. "Text-Based Network Industries and Endogenous Product Differentiation," Journal of Political Economy, University of Chicago Press, vol. 124(5), pages 1423-1465.
    18. Merton, Robert C, 1987. "A Simple Model of Capital Market Equilibrium with Incomplete Information," Journal of Finance, American Finance Association, vol. 42(3), pages 483-510, July.
    19. Peng, Lin & Xiong, Wei, 2006. "Investor attention, overconfidence and category learning," Journal of Financial Economics, Elsevier, vol. 80(3), pages 563-602, June.
    20. Fama, Eugene F. & French, Kenneth R., 2015. "A five-factor asset pricing model," Journal of Financial Economics, Elsevier, vol. 116(1), pages 1-22.
    21. Lauren Cohen & Andrea Frazzini, 2008. "Economic Links and Predictable Returns," Journal of Finance, American Finance Association, vol. 63(4), pages 1977-2011, August.
    22. Greenwood, Jeremy & Hercowitz, Zvi & Krusell, Per, 1997. "Long-Run Implications of Investment-Specific Technological Change," American Economic Review, American Economic Association, vol. 87(3), pages 342-362, June.
    23. La Porta, Rafael, et al, 1997. "Good News for Value Stocks: Further Evidence on Market Efficiency," Journal of Finance, American Finance Association, vol. 52(2), pages 859-874, June.
    24. Newey, Whitney & West, Kenneth, 2014. "A simple, positive semi-definite, heteroscedasticity and autocorrelation consistent covariance matrix," Applied Econometrics, Russian Presidential Academy of National Economy and Public Administration (RANEPA), vol. 33(1), pages 125-132.
    25. Chopra, Navin & Lakonishok, Josef & Ritter, Jay R., 1992. "Measuring abnormal performance : Do stocks overreact?," Journal of Financial Economics, Elsevier, vol. 31(2), pages 235-268, April.
    26. Stefano Dellavigna & Joshua M. Pollet, 2009. "Investor Inattention and Friday Earnings Announcements," Journal of Finance, American Finance Association, vol. 64(2), pages 709-749, April.
    27. David Hirshleifer & Po-Hsuan Hsu & Dongmei Li, 2018. "Innovative Originality, Profitability, and Stock Returns," Review of Financial Studies, Society for Financial Studies, vol. 31(7), pages 2553-2605.
    28. Xing Huang, 2015. "Thinking Outside the Borders: Investors' Underreaction to Foreign Operations Information," Review of Financial Studies, Society for Financial Studies, vol. 28(11), pages 3109-3152.
    29. Fama, Eugene F & MacBeth, James D, 1973. "Risk, Return, and Equilibrium: Empirical Tests," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 607-636, May-June.
    30. Pingui Rao & Heng Yue & Xin Zhou, 2018. "Return predictability and the real option value of segments," Review of Accounting Studies, Springer, vol. 23(1), pages 167-199, March.
    31. Chan, Louis K C & Jegadeesh, Narasimhan & Lakonishok, Josef, 1996. "Momentum Strategies," Journal of Finance, American Finance Association, vol. 51(5), pages 1681-1713, December.
    32. Jegadeesh, Narasimhan & Titman, Sheridan, 1993. "Returns to Buying Winners and Selling Losers: Implications for Stock Market Efficiency," Journal of Finance, American Finance Association, vol. 48(1), pages 65-91, March.
    33. Kewei Hou, 2007. "Industry Information Diffusion and the Lead-lag Effect in Stock Returns," Review of Financial Studies, Society for Financial Studies, vol. 20(4), pages 1113-1138.
    34. Lee, Charles M. C. & So, Eric C., 2015. "Alphanomics: The Informational Underpinnings of Market Efficiency," Foundations and Trends(R) in Accounting, now publishers, vol. 9(2-3), pages 59-258, December.
    35. Jaffe, Adam B, 1986. "Technological Opportunity and Spillovers of R&D: Evidence from Firms' Patents, Profits, and Market Value," American Economic Review, American Economic Association, vol. 76(5), pages 984-1001, December.
    36. Daron Acemoglu & Vasco M. Carvalho & Asuman Ozdaglar & Alireza Tahbaz‐Salehi, 2012. "The Network Origins of Aggregate Fluctuations," Econometrica, Econometric Society, vol. 80(5), pages 1977-2016, September.
    37. Yi Jiang & Yiming Qian & Tong Yao, 2016. "R&D Spillover and Predictable Returns," Review of Finance, European Finance Association, vol. 20(5), pages 1769-1797.
    38. Bernard, Vl & Thomas, Jk, 1989. "Post-Earnings-Announcement Drift - Delayed Price Response Or Risk Premium," Journal of Accounting Research, Wiley Blackwell, vol. 27, pages 1-36.
    39. Hirshleifer, David & Hsu, Po-Hsuan & Li, Dongmei, 2013. "Innovative efficiency and stock returns," Journal of Financial Economics, Elsevier, vol. 107(3), pages 632-654.
    40. Jeffrey Wurgler & Ekaterina Zhuravskaya, 2002. "Does Arbitrage Flatten Demand Curves for Stocks?," The Journal of Business, University of Chicago Press, vol. 75(4), pages 583-608, October.
    41. Fama, Eugene F. & French, Kenneth R., 1997. "Industry costs of equity," Journal of Financial Economics, Elsevier, vol. 43(2), pages 153-193, February.
    42. Carhart, Mark M, 1997. "On Persistence in Mutual Fund Performance," Journal of Finance, American Finance Association, vol. 52(1), pages 57-82, March.
    43. Allan C. Eberhart & William F. Maxwell & Akhtar R. Siddique, 2004. "An Examination of Long-Term Abnormal Stock Returns and Operating Performance Following R&D Increases," Journal of Finance, American Finance Association, vol. 59(2), pages 623-650, April.
    44. Baruch Lev & Bharat Sarath & Theodore Sougiannis, 2005. "R&D Reporting Biases and Their Consequences," Contemporary Accounting Research, John Wiley & Sons, vol. 22(4), pages 977-1026, December.
    45. Jan Bena & Kai Li, 2014. "Corporate Innovations and Mergers and Acquisitions," Journal of Finance, American Finance Association, vol. 69(5), pages 1923-1960, October.
    46. Joseph Engelberg & R. David Mclean & Jeffrey Pontiff, 2018. "Anomalies and News," Journal of Finance, American Finance Association, vol. 73(5), pages 1971-2001, October.
    47. David L. Ikenberry & Sundaresh Ramnath, 2002. "Underreaction to Self-Selected News Events: The Case of Stock Splits," Review of Financial Studies, Society for Financial Studies, vol. 15(2), pages 489-526, March.
    48. Charles M.C. Lee & Bhaskaran Swaminathan, 2000. "Price Momentum and Trading Volume," Journal of Finance, American Finance Association, vol. 55(5), pages 2017-2069, October.
    49. Harrison Hong & Jeremy C. Stein, 1999. "A Unified Theory of Underreaction, Momentum Trading, and Overreaction in Asset Markets," Journal of Finance, American Finance Association, vol. 54(6), pages 2143-2184, December.
    50. Cao, Jie & Chordia, Tarun & Lin, Chen, 2016. "Alliances and Return Predictability," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 51(5), pages 1689-1717, October.
    51. Lee, Charles M.C. & Ma, Paul & Wang, Charles C.Y., 2015. "Search-based peer firms: Aggregating investor perceptions through internet co-searches," Journal of Financial Economics, Elsevier, vol. 116(2), pages 410-431.
    52. Fama, Eugene F. & French, Kenneth R., 1993. "Common risk factors in the returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 33(1), pages 3-56, February.
    53. Louis K. C. Chan & Josef Lakonishok & Theodore Sougiannis, 2001. "The Stock Market Valuation of Research and Development Expenditures," Journal of Finance, American Finance Association, vol. 56(6), pages 2431-2456, December.
    54. Padmaja Kadiyala, 2004. "Investor Reaction to Corporate Event Announcements: Underreaction or Overreaction?," The Journal of Business, University of Chicago Press, vol. 77(2), pages 357-386, April.
    55. Dimitris Papanikolaou, 2011. "Investment Shocks and Asset Prices," Journal of Political Economy, University of Chicago Press, vol. 119(4), pages 639-685.
    56. Li, Ningzhong & Richardson, Scott & Tuna, İrem, 2014. "Macro to micro: Country exposures, firm fundamentals and stock returns," Journal of Accounting and Economics, Elsevier, vol. 58(1), pages 1-20.
    57. Qiu, Jiaping & Wan, Chi, 2015. "Technology spillovers and corporate cash holdings," Journal of Financial Economics, Elsevier, vol. 115(3), pages 558-573.
    58. Shumway, Tyler, 1997. "The Delisting Bias in CRSP Data," Journal of Finance, American Finance Association, vol. 52(1), pages 327-340, March.
    59. Gur Huberman & Tomer Regev, 2001. "Contagious Speculation and a Cure for Cancer: A Nonevent that Made Stock Prices Soar," Journal of Finance, American Finance Association, vol. 56(1), pages 387-396, February.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Oh, Jong-Min, 2017. "Absorptive capacity, technology spillovers, and the cross-section of stock returns," Journal of Banking & Finance, Elsevier, vol. 85(C), pages 146-164.
    2. Cohen, Lauren & Lou, Dong, 2012. "Complicated firms," Journal of Financial Economics, Elsevier, vol. 104(2), pages 383-400.
    3. David Hirshleifer & Po-Hsuan Hsu & Dongmei Li, 2018. "Innovative Originality, Profitability, and Stock Returns," The Review of Financial Studies, Society for Financial Studies, vol. 31(7), pages 2553-2605.
    4. Cohen, Lauren & Lou, Dong, 2011. "Complicated firms," LSE Research Online Documents on Economics 119066, London School of Economics and Political Science, LSE Library.
    5. Chen, Zilin & Chu, Liya & Liang, Dawei & Tu, Jun, 2022. "Far away from home: Investors’ underreaction to geographically dispersed information," Journal of Economic Dynamics and Control, Elsevier, vol. 136(C).
    6. Lauren Cohen & Dong Lou, 2011. "Complicated Firms," FMG Discussion Papers dp683, Financial Markets Group.
    7. Hirshleifer, David & Hsu, Po-Hsuan & Li, Dongmei, 2013. "Innovative efficiency and stock returns," Journal of Financial Economics, Elsevier, vol. 107(3), pages 632-654.
    8. Wu, Yuliang & Mazouz, Khelifa, 2016. "Long-term industry reversals," Journal of Banking & Finance, Elsevier, vol. 68(C), pages 236-250.
    9. Jacobs, Heiko, 2015. "What explains the dynamics of 100 anomalies?," Journal of Banking & Finance, Elsevier, vol. 57(C), pages 65-85.
    10. Adam Zaremba & Jacob Koby Shemer, 2018. "Price-Based Investment Strategies," Springer Books, Springer, number 978-3-319-91530-2, November.
    11. Zareei, Abalfazl, 2021. "Cross-momentum: Tracking idiosyncratic shocks," International Review of Economics & Finance, Elsevier, vol. 71(C), pages 177-199.
    12. Jiang, George J. & Zhu, Kevin X., 2017. "Information Shocks and Short-Term Market Underreaction," Journal of Financial Economics, Elsevier, vol. 124(1), pages 43-64.
    13. Hou, Kewei & Xue, Chen & Zhang, Lu, 2017. "Replicating Anomalies," Working Paper Series 2017-10, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
    14. Chenchen Li & Rui Li & Xundi Diao & Chongfeng Wu, 2020. "Market segmentation and supply‐chain predictability: evidence from China," Accounting and Finance, Accounting and Finance Association of Australia and New Zealand, vol. 60(2), pages 1531-1562, June.
    15. Jannati, Sima, 2020. "Geographic spillover of dominant firms’ shocks," Journal of Banking & Finance, Elsevier, vol. 118(C).
    16. Daniel, Kent & Hirshleifer, David & Teoh, Siew Hong, 2002. "Investor psychology in capital markets: evidence and policy implications," Journal of Monetary Economics, Elsevier, vol. 49(1), pages 139-209, January.
    17. Chen, Huaizhi & Cohen, Lauren & Lou, Dong, 2013. "Industry window dressing," LSE Research Online Documents on Economics 119035, London School of Economics and Political Science, LSE Library.
    18. David Hirshleifer, 2001. "Investor Psychology and Asset Pricing," Journal of Finance, American Finance Association, vol. 56(4), pages 1533-1597, August.
    19. Ashish Agarwal & Alvin Chung Man Leung & Prabhudev Konana & Alok Kumar, 2017. "Cosearch Attention and Stock Return Predictability in Supply Chains," Information Systems Research, INFORMS, vol. 28(2), pages 265-288, June.
    20. Xin Chen & Wei He & Libin Tao & Jianfeng Yu, 2023. "Attention and Underreaction-Related Anomalies," Management Science, INFORMS, vol. 69(1), pages 636-659, January.

    More about this item

    Keywords

    Technology momentum; Return predictability; Technological closeness; Limited attention; Market efficiency;
    All these keywords.

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • O30 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - General

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:jfinec:v:132:y:2019:i:3:p:76-96. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Catherine Liu (email available below). General contact details of provider: http://www.elsevier.com/locate/inca/505576 .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.