Are institutions informed about news?

T. Hendershott, D. Livdan, N. Schürhoff

Discussed by:Sergey Gelman, ICEF, Higher School of

Economics, Moscow

The Second International Moscow Finance Conference 2012

Summary (I)

• Since Kyle (1985): the role of an informed trader is crucial – Who is informed?

• Mutual funds, Short sellers, Corporate insiders.

– Are institutions informed?• Up to now: mixed evidence, based mainly on specific

news

– This paper: using a very comprehensive news sample

YES!

Summary (II)• Excellent lit review• A rich dataset: – returns and NYSE institutional trading data on 1667 stocks

observed over 2003-2005 (756 trading days)– 126,438 days with news releases from Reuters NewsScope

Sentiment Engine

Results:• Institutional trading predicts news arrival• Institutional trading predicts news sentiment• Inst. trading predicts (news) returns• Inst. trading predicts earnings surprise

Comments (I)• Causality issue: do institutions cause news or predict

(have private info)?– Institutional demand drives prices (Choi, Sias 2012 RFS;

Llorente et al. 2002 RFS, Baker and Warner 1993 JFE)– Institutional demand may drive news (indirect evidence:

Barber et al. 2007 JFE)– Only in case of earnings surprises alternative causality

stories can be majorly ruled outPossible extension: include prediction of earnings surprise

date returns Possible extension: choose certain type of news, which can

not be influenced by institutionals and returns (beside EA)

Comments (II)• Economic significance: 10 b.p.: – small fraction of returns s.d. ≈200 b.p. Institutions are better informed, but not “the informed” – smaller than transaction costs (average bid-ask spreads for

S&P 500 stocks were 16 b.p. in 2002 -2011); Do institutions trade on the information or just minimize

their transaction costs?

• High persistence of institutional order imbalance: – link to theoretical models– Splitting order effect, literature on the size of informed

trade (Llorente et al. 2002 RFS): Return*volume

Comments (III): Technical• Fixed effects cause problems in all panel equations, not

only VAR (use Arellano-Bover (1995))• Institutional fraction (Choi and Sias 2012 RFS)– Negative sign for volume– Institutionals seem to account for 50% to over 100% of the

volume (??). Who is uninformed in the latter case?

• Granger causality test instead of IRF • Persistence in sentiment: Effect of a news published

several times in different media?• Surprising: simultaneous correlations in VAR low