Harrison G. Hong's research while affiliated with Columbia University and other places

Publications (116)

Article
Credit ratings of corporations are biased, but the forces driving this bias are unclear. We argue it would be difficult for rating agencies to issue high grades for a firm’s debt when there are a lot of objective equity analyst reports about the firm’s earnings that are informative about its default. We find that an exogenous drop in analyst covera...
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We introduce aggregate transmission shocks to an epidemic model and link firm valuations to infections via an asset pricing framework with vaccines. Infections lower earnings growth but firms can mitigate damages. We estimate a large reproduction number ${\mathcal R}_0$ and transmission volatility for COVID-19. Using these estimates, we quantify th...
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Households hold undiversified stock portfolios of firms headquartered near their city of residence. Leading explanations assign a causal role for proximity. The literature neglects that distance is endogenous. Households may locate based on unobservables such as optimism about a city’s economic prospects, which can be correlated with latent local-s...
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Measuring the value of labor-market hires for stock prices, be it underwriters when firms go public (IPOs) or chief executive officers (CEOs), is difficult due to selection. Opaque firms with higher costs of capital benefit more from prestigious underwriters, while productive firms benefit more from talented CEOs. Using assignment models, we show t...
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Adams et al. (2018) point out that outliers might be driving the negative relationship between fund size and performance in Chen et al. (2004). These outliers are due to style misclassifications in the 2004 CRSP Mutual Fund Database. They propose robust regressions to remove outliers. We point out that the ideal way to address this issue is simply...
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Climate science finds that the trend towards higher global temperatures exacerbates the risks of droughts. We investigate whether the prices of food stocks efficiently discount these risks. Using data from thirty-one countries with publicly-traded food companies, we rank these countries each year based on their long-term trends toward droughts usin...
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We infer the latent social networks of investors using data on their stock holdings. We map linkages to portfolio weights using a portfolio-choice model. The precision of an investor's private signal about firm value is assumed to increase with his connections in the city where the firm is headquartered. Using money-manager data, we find that manag...
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The liquidity premium theory of interest rates predicts that the Treasury yield curve steepens with inflation uncertainty as investors demand larger risk premiums to hold long-term bonds. By using the dispersion of inflation forecasts to measure this uncertainty, we find the opposite. Since the prices of long-term bonds move more with inflation tha...
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The risk and return trade-off, the cornerstone of modern asset pricing theory, is often of the wrong sign. Our explanation is that high-beta assets are prone to speculative overpricing. When investors disagree about the stock market's prospects, high-beta assets are more sensitive to this aggregate disagreement, experience greater divergence of opi...
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Full-text available
We investigate whether stock markets efficiently price risks brought on or exacerbated by climate change. We focus on drought, the most damaging natural disaster for crops and food-company cash flows. We show that prolonged drought in a country, measured by the Palmer Drought Severity Index (PDSI) from climate studies, forecasts both declines in pr...
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Households hold nondiversified stock portfolios of firms headquartered near their city of residence. Explanations assign a causal role for proximity, either in generating an informational advantage or a familiarity bias. Empirical analyses assume households locate randomly, even though they optimally select a city. This selection is important since...
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Price efficiency plays an important role in financial markets. Firms influence it, particularly when they issue public equity. They can hire a reputable underwriter with a star analyst to generate public signals about profits, thereby reducing uncertainty and increasing valuations. We develop an assignment model of this labor market. The value of a...
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We estimate the effect of ordering by value on revenues in sequential art auctions held by Sotheby's and Christie's. We exploit a pre determined rotation of which of these two houses holds their auction first during auction week in New York City. When the house that goes first has relatively expensive paintings compared to the other house, we find...
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The Russell 1000 and 2000 stock indices comprise the first 1000 and next 2000 largest firms ranked by market capitalization. Small changes in the capitalizations of firms ranked near 1000 move them between these indices. Because the indices are value-weighted, more money tracks the largest stocks in the Russell 2000 than the smallest in the Russell...
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Full-text available
A crowded trade emerges when speculators' positions are large relative to the asset's liquidity, making exit difficult. We study this problem of recent regulatory concern by focusing on short-selling. We show that days to cover (DTC), the ratio of short interest to trading volume, measures the costliness of exiting crowded trades. Crowding is an im...
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Many believe that compensation, misaligned from shareholders’ value due to managerial entrenchment, caused financial firms to take creative risks before the financial crisis of 2008. We argue that even in a classical principal-agent setting without entrenchment and with exogenous firm risk, riskier firms may offer higher total pay as compensation f...
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The textbook liquidity premium theory of interest rates predicts that the Treasury yield curve steepens with inflation uncertainty as investors demand a larger risk premium to hold long-term bonds. Using the dispersion of inflation forecasts to measure this uncertainty, we find the opposite. Since the prices of long-term bonds are more sensitive to...
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Hoarding by large speculators is often blamed for contributing to commodity market panics and bubbles. Using supermarket scanner data on US household purchases during the 2008 Rice Bubble, we show that hoarding is in fact more systemic, affecting even households who have no resale motive. Export bans led to a spike in prices worldwide in the first...
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We estimate the effect of ordering by value on revenues in sequential art auctions held by Sotheby’s and Christie’s. We exploit a pre-determined rotation of which of these two houses holds their auction first during auction week in New York City. When the house that goes first has relatively expensive paintings compared to the other house, we find...
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We test the hypothesis that the linguistic diversity of a stock’s investor base leads to more trading. Trading might be due to beliefs differing across languages or investor exposure to multiple languages leading to more trading ideas. Using stock message boards from China, which has ten languages, we measure the linguistic diversity of a stock’s i...
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We test the hypothesis that corporate social responsibility is due to managerial agency problems using two identification strategies. First, we use the 2003 Dividend Tax Cut, which increased the after-tax effective firm ownership for managers. Consistent with the agency view, we find that the tax cut led to a decline in corporate goodness. We then...
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Diversity, whether ethnic, religious or linguistic, is often thought to stimulate diverse opinions and activity. We test this hypothesis using linguistic measures of diversity across Chinese provinces and stock-market measures of opinions and activity. Using the geographical isolation of an area due to hilly terrain as an instrument for linguistic...
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Using data on household portfolios and mortgage originations, we find that households residing in a city with few publicly traded firms headquartered there are more likely to own an investment home nearby. Households in these areas are also less likely to own stocks. This only-game-in-town effect is more pronounced for households living in high cre...
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We use overdispersed Poisson regression models to study social networks in finance. We count an investor's social connections in different groups, such as cities or industries, as proportional to the number of stocks held by this investor that are headquartered in those cities or part of those industries. When connections are formed randomly, the c...
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An oft-cited premise for why diverse societies, be it ethnic, linguistic or religious, can grow faster than homogeneous ones is that they bring about diverse opinions, which fosters problem solving and creativity. We provide evidence for this premise using a linguistic measure of diversity across Chinese provinces and stock market measures of diver...
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We show that Keeping-Up-with-the-Joneses preferences can explain several puzzling retail investor behaviors, including the excessive trading of small local stocks. Status concerns lead households, especially those living in affluent areas, to demand these stocks to track their neighbors' wealth. This demand varies procyclically with the stock marke...
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We test the hypothesis that security analysts discipline credit rating agencies. After all, analyst reports about a firm’s equity would no doubt be informative about its debt default probability and calibrate its credit ratings. We use brokerage house mergers, which eliminate redundant analysts, to shock analyst following so as to identify the caus...
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We investigate the effects of managerial outsourcing on the performance and incentives of mutual funds. Fund families outsource the management of a large fraction of their funds to advisory firms. These funds under-perform those ran internally by about 50 basis points per year. After instrumenting for a fund's outsourcing status, the estimate of un...
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We show that institutional portfolio rules induce regression discontinuity experiments in stock markets using the Russell indices. Stocks are ranked each May 31st based on their market capitalization. Those ranked above the 1000 cut-off are in the Russell 1000. Those below the 1000 cut-off and above the 3000 cut-off are in the Russell 2000. Indices...
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We provide a model for why high beta assets are more prone to speculative overpricing than low beta ones. When investors disagree about the common factor of cash-flows, high beta assets are more sensitive to this macro-disagreement and experience a greater divergence-of-opinion about their payoffs. Short-sales constraints for some investors such as...
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Economists have traditionally viewed futures prices as fully informative about future economic activity and asset prices. We argue that open interest could be more informative than futures prices in the presence of hedging demand and limited risk absorption capacity in futures markets. We find that movements in open interest are highly pro-cyclical...
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An influential thesis, dubbed "Doing Well by Doing Good", argues that corporate social responsibility is profitable. We establish that, if anything, the reverse is true: firms do good only when they do well in the sense of having financial slack. We model a firm's optimal choices of capital and goodness subject to financial constraints. Less-constr...
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We develop a measure of binding short-sales constraints in equity markets derived from Chen, Hong, and Stein (2002)'s breadth of mutual fund ownership. We show that when the exit rate, the fraction of investors that held a stock in the previous quarter and that exit that stock this quarter, is high, short-sales constraints are more tightly binding...
Article
We develop a speculation-based theory of home improvements. Housing services are produced from a mix of land and structures. Homeowners have an option to increase their structures (i.e. make improvements) holding fixed their land. Speculative improvements arise because overconfident homeowners mistakenly believe they can add to structures for a low...
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We test the hypothesis that arbitrageurs amplify economic shocks in equity markets. The ability of speculators to hold short positions depends on asset values: shorts are often reduced following good news about a stock. Therefore, the prices of highly shorted stocks are excessively sensitive to shocks compared to stocks with little short interest....
Article
We develop a speculative-based theory of home improvements. Housing services are produced from a mix of land and structures. Homeowners have an option to increase their structures (i.e. make improvements) holding fixed their land. Speculative improvements arise because overconfident homeowners mistakenly believe they can add to structures for a low...
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Classic speculative bubbles are loud: price is high and so are price volatility and share turnover. The credit bubble of 2003-2007 is quiet: price is high but price volatility and share turnover are low. We develop a model, based on investor disagreement and short-sales constraints, that explains why credit bubbles are quieter than equity ones. Sin...
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We develop a simple and tractable model of opinions and price-volume dynamics based on a word-of-mouth communication process widely used in epidemiology. Risk-averse investors have different opinions depending on whether they heard the news from a friend. Opinions initially diverge and then converge over time as news spreads, which leads to price a...
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We develop a simple and tractable model of opinions and price-volume dy-namics based on a word-of-mouth communication process widely used in epidemi-ology. Risk-averse investors have different opinions depending on whether they heard the news from a friend. Opinions initially diverge and then converge over time as news spreads, which leads to price...
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We investigate the link between compensation and risk-taking among finance firms during the period of 1992-2008. First, there are substantial cross-firm differences in residual pay (defined as total executive compensation controlling for firm size). Second, residual pay is correlated with price-based risk-taking measures including firm beta, return...
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We establish several new findings on the relation between open interest in commod-ity markets and asset returns. High commodity market activity, as measured by high open-interest growth, predicts high commodity returns and low bond returns. Open-interest growth is a more powerful and robust predictor of commodity returns than other known predictors...
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Do political values influence investing? We answer this question using data on the political contributions and stock holdings of US investment magers. We find that mutual fund managers who make campaign donations to Democrats hold less of their portfolios (relative to non-donors or Republican donors) in industries that are deemed socially irrespons...
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This paper studies the cross-sectional determinants of delta-hedged stock option returns with an emphasis on the pricing of volatility risk. We find that the average delta-hedged option returns are significantly negative for most stocks, and their magnitudes increase monotonically with the volatility of the underlying stock. Writing covered calls o...
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We establish several new findings on the relation between capital flow in commod- ity markets and asset returns. Capital flowing into commodity markets, as measured by high open-interest growth, predicts high commodity returns and low bond returns. Open-interest growth is a more powerful and robust predictor of commodity returns than other known pr...
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We use seasonality in stock trading activity associated with summer vacation as a source of exogenous variation to study the relationship between trading volume and expected return. Using data from 51 stock markets, we first confirm a widely held belief that stock turnover is significantly lower during the summer because market participants are on...
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We provide evidence for the effects of social norms on markets by studying "sin" stocks--publicly traded companies involved in producing alcohol, tobacco, and gaming. We hypothesize that there is a societal norm against funding operations that promote vice and that some investors, particularly institutions subject to norms, pay a financial cost in...
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We investigate the determinants of aggregate commodity returns and establish the following findings. (1) Common predictors of bond and stock returns, such as the short rate and the yield spread, also predict commodity returns. A high yield spread predicts low commodity returns, consistent with commodities being a hedge for market fluctuations. (2)...
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This paper examines the determinants of corporate social responsibility (CSR) through the lens of three distinct economic channels. The first is that CSR is a firm's attempt, like investor relations, to improve its cost of capital. The key prediction is that firms (particularly equity dependent ones) which suffer a decrease in stock price or exit o...
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We develop a model to explore the asset pricing implications of firms being buyers of last resort for their own stocks. Those with more ability to repurchase shares when prices drop far below fundamental value (i.e., less financially constrained firms) should have lower short-horizon return variances (controlling for fundamental variance) than othe...
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This paper explores the question of whether hedge funds engage in front-running strategies that exploit the predictable trades of others. One potential opportunity for front-running arises when distressed mutual funds -- those suffering large outflows of assets under management -- are forced to sell stocks they own. We document two pieces of eviden...
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We attempt to measure the effect of competition on bias in the context of analyst earnings forecasts, which are known to be excessively optimistic because of conflicts of interest. Our natural experiment for competition is mergers of brokerage houses, which result in the firing of analysts because of redundancy (e.g., one of the two oil stock analy...
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We develop a model of asset price bubbles based on the communication process between advisors and investors. Advisors are well-intentioned and want to maximize the welfare of their advisees (like a parent treats a child). But only some advisors understand the new technology (the tech-savvies); others do not and can only make a downward-biased recom...
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Theory suggests that, in the presence of local bias, the price of a stock should be decreasing in the ratio of the aggregate book value of firms in its region to the aggregate risk tolerance of investors in its region. Using data on U.S. states and Census regions, we find clear-cut support for this proposition. Most of the variation in the ratio of...
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We find that trends and reversals in past earnings surprises predict future stock returns. These earnings surprise sequences produce a 9.88% risk-adjusted annual re-turn which cannot be attributed to momentum nor post-earnings announcement drift. Our empirical methodology captures the market's beliefs regarding future returns by estimating the prob...
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We investigate whether the returns of industry portfolios predict stock market movements. In the US, a significant number of industry returns, including retail, services, commercial real estate, metal, and petroleum, forecast the stock market by up to two months. Moreover, the propensity of an industry to predict the market is correlated with its p...
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We study the asset pricing implications of learning in an environment in which the true model of the world is a multivariate one, but agents update only over the class of simple univariate models. Thus, if a particular simple model does a poor job of forecasting over a period of time, it is discarded in favor of an alternative simple model. The the...
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A large catalog of variables with no apparent connection to risk has been shown to forecast stock returns, both in the time series and the cross-section. For instance, we see medium-term momentum and post-earnings drift in returns—the tendency for stocks that have had unusually high past returns or good earnings news to continue to deliver relative...
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We develop a model to explore the effects of firms being buyers of last resort on stock returns and liquidity. Those with more ability to repurchase shares when prices drop far below fundamental value (less financially constrained ones) should have lower short horizon relative to long-horizon return variance and more positively skewed returns than...
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A mutual fund manager is more likely to buy (or sell) a particular stock in any quarter if other managers in the same city are buying (or selling) that same stock. This pattern shows up even when the fund manager and the stock in question are located far apart, so it is distinct from anything having to do with local preference. The evidence can be...
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We model the relationship between float (the tradable shares of an asset) and stock price bubbles. Investors trade a stock that initially has a limited float because of insider lock-up restrictions but the tradable shares of which increase over time as these restrictions expire. A speculative bubble arises because investors, with heterogeneous beli...
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We propose that stock-market participation is influenced by social interaction. In our model, any given "social" investor finds the market more attractive when more of his peers participate. We test this theory using data from the Health and Retirement Study, and find that social households-those who interact with their neighbors, or attend church-...
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We investigate the effect of scale on performance in the active money management industry. We first document that fund returns, both before and after fees and expenses, decline with lagged fund size, even after accounting for various performance benchmarks. We then explore a number of potential explanations for this relationship. This association i...
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We develop a theory of market crashes based on differences of opinion among investors. Because of short-sales constraints, bearish investors do not initially participate in the market and their information is not revealed in prices. However, if other previously bullish investors bail out of the market, the originally bearish group may become the ma...
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A mutual-fund manager is more likely to hold (or buy, or sell) a particular stock in any quarter if other managers in the same city are holding (or buying, or selling) that same stock. This pattern shows up even when controlling for the distance between the fund manager and the stock in question, so it is distinct from a local-preference effect. It...
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We examine security analysts' career concerns by relating their earnings forecasts to job separations. Relatively accurate forecasters are more likely to experience favorable career outcomes like moving up to a high-status brokerage house. Controlling for accuracy, analysts who are optimistic relative to the consensus are more likely to experience...
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We introduce adaptive learning behavior into a general-equilibrium life-cycle economy with capital accumulation. Agents form forecasts of the rate of return to capital assets using least-squares autoregressions on past data. We show that, in contrast to the perfect-foresight dynamics, the dynamical system under learning possesses equilibria that ar...
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Managements (“insiders”) of many corporations, especially small or newly-public firms, invest considerable resources in investor relations. We develop a model to explore the incentives of insiders to undertake such costly investments. We point out that insiders may undertake such investments not necessarily to improve the share price, but to enhanc...
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Full-text available
We show empirically a series of sharp patterns in stock market fluctuations, trading activity and their contemporaneous relationships. We link together and explain the following facts: (i) the cubic law of returns: returns follow a power law distribution with exponent 3. This "cubic" law seems to hold both across time and internationally. Stock mar...
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Full-text available
We show empirically a series of sharp patterns in stock market fluctuations, trading activity and their contemporaneous relationships. We link together and explain the following facts: (i) the cubic law of returns: returns follow a power law distribution with exponent 3. This "cubic" law seems to hold both across time and internationally. Stock mar...
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We investigate the effect of fund size on performance among active mutual funds. We first document that fund returns, both before and after management fees, decline with fund size, even after adjusting performance by various benchmarks and controlling for other fund characteristics such as turnover and age. We then explore a number of potential exp...
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Many practitioners point out that the speculative profits of institutional traders are eroded by the difficulty in gauging the price impact of their trades. In this paper, we develop a model of strategic trading where speculators face such a dilemma because of incomplete information about time-varying market liquidity. Unlike the competitive market...
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We test the hypothesis that the gradual diffusion of information across asset markets leads to cross-asset return predictability. Using thirty-four industry portfolios and the broad market index as our test assets, we establish several key results. First, a number of industries such as retail, services, commercial real estate, metal, and petroleum...