Institutional Herding and Future Returns
When the trading of institutional investors is imbalanced between buys and sells, how are stock prices
affected? The extant literature on such herding by institutions concludes that herding promotes price
discovery. That is, herding correctly predicts stock returns in the near term. Examining a
longer window, we find that herding is negatively related to returns in the second year after the herding.
This longer run reversal in returns dominates any shorter run return continuation and suggests that
herding pushes prices beyond their intrinsic levels. In addition, consistent with a price pressure
interpretation of the longer run reversal, we detect an asymmetry in the relations between buy and sell
herding and longer run reversal that mirrors the well-documented buy/sell asymmetry found in the
high-frequency studies of institutional trades. Buy herds during up markets push prices too high; sell herds
during down markets push prices too low.
[download pdf]
affected? The extant literature on such herding by institutions concludes that herding promotes price
discovery. That is, herding correctly predicts stock returns in the near term. Examining a
longer window, we find that herding is negatively related to returns in the second year after the herding.
This longer run reversal in returns dominates any shorter run return continuation and suggests that
herding pushes prices beyond their intrinsic levels. In addition, consistent with a price pressure
interpretation of the longer run reversal, we detect an asymmetry in the relations between buy and sell
herding and longer run reversal that mirrors the well-documented buy/sell asymmetry found in the
high-frequency studies of institutional trades. Buy herds during up markets push prices too high; sell herds
during down markets push prices too low.
[download pdf]