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Short interest and aggregate stock returns

Author

Listed:
  • David E. Rapach

    (John Cook School of Business, Saint Louis University)

  • Matthew C. Ringgenberg

    (Olin Business School, Washington University)

  • Guofu Zhou

    (Olin School of Business, Washington University in St. Louis
    China Academy of Financial Research
    China Economics and Management Academy,)

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

  • David E. Rapach & Matthew C. Ringgenberg & Guofu Zhou, 2016. "Short interest and aggregate stock returns," CEMA Working Papers 716, China Economics and Management Academy, Central University of Finance and Economics.
    • Handle: RePEc:cuf:wpaper:716
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    More about this item

    Keywords

    Equity risk premium; Predictive regression; Short interest; Cash flow channel; Informed traders;
    All these keywords.

    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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