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James Choi, Yale University and NBER; Li Jin, Peking University; and Hongjun Yan, Yale University
Informed Trading and the Cost of Capital
Does information asymmetry among traders of a firm's securities increase its cost of capital? Choi, Jin, and Yanexplore this question using representative portfolio holdings data from the Shanghai Stock Exchange. The researchers show that institutional investors have a strong information advantage, and that past aggressiveness of institutional trading in a stock positively predicts institutions' future information advantage in this stock. Sorting stocks on this predictor and controlling for other correlates of expected returns, they find that the top quintile's average annualized return in the next month is 10.8% higher than the bottom quintile's, indicating that information asymmetry raises the cost of capital.