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The dog that did not bark: Insider trading and crashes

  • José M. Marín

    ()

    (IE Business School and IMDEA)

  • Jacques Olivier

    ()

    (HEC Paris)

This paper documents that at the individual stock level insiders sales peak many months before a large drop in the stock price, while insiders purchases peak only the month before a large jump. We provide a theoretical explanation for this phenomenon based on trading constraints and asymmetric information. A key feature of our theory is that rational uninformed investors may react more strongly to the absence of insider sales than to their presence (the “dog that did not bark” effect). We test our hypothesis against competing stories such as patterns of insider trading driven by earnings announcement dates, or insiders timing their trades to evade prosecution.

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Paper provided by Instituto Madrileño de Estudios Avanzados (IMDEA) Ciencias Sociales in its series Working Papers with number 2007-20.

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Date of creation: 28 Oct 2007
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Publication status: Published in Journal of Finance 63(5), October 2008: 2429-2476
Handle: RePEc:imd:wpaper:wp2007-20
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  1. Franklin Allen & Stephen Morris & Hyun Song Shin, 2003. "Beauty Contests, Bubbles and Iterated Expectations in Asset Markets," NajEcon Working Paper Reviews 391749000000000553, www.najecon.org.
  2. Marin, Jose M & Rahi, Rohit, 2000. "Information Revelation and Market Incompleteness," Review of Economic Studies, Wiley Blackwell, vol. 67(3), pages 563-79, July.
  3. Gerard Gennotte and Hayne Leland., 1989. "Market Liquidity, Hedging and Crashes," Research Program in Finance Working Papers RPF-192, University of California at Berkeley.
  4. Radner, Roy, 1979. "Rational Expectations Equilibrium: Generic Existence and the Information Revealed by Prices," Econometrica, Econometric Society, vol. 47(3), pages 655-78, May.
  5. Leslie A. Jeng & Andrew Metrick & Richard Zeckhauser, 2003. "Estimating the Returns to Insider Trading: A Performance-Evaluation Perspective," The Review of Economics and Statistics, MIT Press, vol. 85(2), pages 453-471, May.
  6. Devenow, Andrea & Welch, Ivo, 1996. "Rational herding in financial economics," European Economic Review, Elsevier, vol. 40(3-5), pages 603-615, April.
  7. Sylvain Friederich & Alan Gregory & John Matatko & Ian Tonks, 2002. "Short-run Returns around the Trades of Corporate Insiders on the London Stock Exchange," European Financial Management, European Financial Management Association, vol. 8(1), pages 7-30.
  8. Allen F. & Morris S. & Postlewaite A., 1993. "Finite Bubbles with Short Sale Constraints and Asymmetric Information," Journal of Economic Theory, Elsevier, vol. 61(2), pages 206-229, December.
  9. Lakonishok, Josef & Lee, Inmoo, 2001. "Are Insider Trades Informative?," Review of Financial Studies, Society for Financial Studies, vol. 14(1), pages 79-111.
  10. Chen, Joseph & Hong, Harrison & Stein, Jeremy C., 2001. "Forecasting crashes: trading volume, past returns, and conditional skewness in stock prices," Journal of Financial Economics, Elsevier, vol. 61(3), pages 345-381, September.
  11. Chamberlain, Gary, 1980. "Analysis of Covariance with Qualitative Data," Review of Economic Studies, Wiley Blackwell, vol. 47(1), pages 225-38, January.
  12. Franklin Allen & Douglas Gale, 1998. "Bubbles and Crises The Economic Journal," Center for Financial Institutions Working Papers 98-01, Wharton School Center for Financial Institutions, University of Pennsylvania.
  13. Conrad, Jennifer & Kaul, Gautam, 1993. " Long-Term Market Overreaction or Biases in Computed Returns?," Journal of Finance, American Finance Association, vol. 48(1), pages 39-63, March.
  14. Gadi Barlevy & Pietro Veronesi, 2000. "Rational Panics and Stock Market Crashes," CRSP working papers 483, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  15. Meulbroek, Lisa K, 1992. " An Empirical Analysis of Illegal Insider Trading," Journal of Finance, American Finance Association, vol. 47(5), pages 1661-99, December.
  16. Romer, David, 1993. "Rational Asset-Price Movements without News," American Economic Review, American Economic Association, vol. 83(5), pages 1112-30, December.
  17. Harrison Hong & Jose Scheinkman & Wei Xiong, 2005. "Asset Float and Speculative Bubbles," NBER Working Papers 11367, National Bureau of Economic Research, Inc.
  18. Sanford J Grossman & Joseph E Stiglitz, 1997. "On the Impossibility of Informationally Efficient Markets," Levine's Working Paper Archive 1908, David K. Levine.
  19. H. Henry Cao & Joshua D. Coval & David Hirshleifer, 2002. "Sidelined Investors, Trading-Generated News, and Security Returns," Review of Financial Studies, Society for Financial Studies, vol. 15(2), pages 615-648, March.
  20. Bhattacharya, Utpal & Spiegel, Matthew, 1991. "Insiders, Outsiders, and Market Breakdowns," Review of Financial Studies, Society for Financial Studies, vol. 4(2), pages 255-82.
  21. Suleyman Basak & David Cass & Juan Manuel Licari & Anna Pavlova, 2006. "Multiplicity and Sunspots in General Financial Equilibrium with Portfolio Constraints," PIER Working Paper Archive 06-012, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania.
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