Short interest and aggregate stock returns

David Rapach (), Matthew Ringgenberg and Guofu Zhou ()
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David Rapach: John Cook School of Business, Saint Louis University
Guofu Zhou: Olin School of Business, Washington University in St. Louis

No 716, CEMA Working Papers from China Economics and Management Academy, Central University of Finance and Economics

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.

Keywords: Equity risk premium; Predictive regression; Short interest; Cash flow channel; Informed traders (search for similar items in EconPapers)
JEL-codes: C58 G12 G14 (search for similar items in EconPapers)
Pages: 20 pages
Date: 2016
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Citations: View citations in EconPapers (10)

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