Foreigners´ Trading and Price Effects Across Firms

We study the investment behavior of foreign investors in association with an equity market liberalization, and find a strong link between foreigners´ trading and local market returns. In the period following the liberalization, foreigners´ net purchases led to a permanent increase in prices, or equivalently, a permanent reduction of the cost of equity capital. We also find a strong link between a firm´s fraction of foreign ownership and the magnitude of the reduction of cost of capital. Foreign investors seem to prefer large and well-known forms, and these forms realize the most sizeable cuts in capital costs. Furthermore, our analysis suggests that foreigners act like non-informed feedback traders. In particular, they increase their net holding in firms that have recently perfoemd well. Analyzing foregners´ performance, we find very little evidence of informed trading, suggesting that risk sharing is the most plausible explanation for the reduction in the cost of equity capital.