Noise trader risk: Evidence from the Siamese twins

14Citations
Citations of this article
38Readers
Mendeley users who have this article in their library.

Abstract

This paper provides new evidence regarding the magnitude and nature of noise trader risk. I examine returns for two pairs of "Siamese twin" stocks: Royal Dutch/Shell and Unilever NV/PLC. These unusual pairs of fundamentally identical stocks provide a unique opportunity to investigate two facets of noise trader risk: (1) the fraction of total return variation unrelated to fundamentals (i.e., noise), and (2) the short-run risk borne by arbitrageurs engaged in long-short pairs trading. I find that about 15% of weekly return variation is attributable to noise. Noise trader risk has both systematic and idiosyncratic components, and varies considerably over time. The conditional volatility of long-short portfolio returns ranged from 0.5% to over 2.75% per week during the 1989-2003 sample period. Noise trader risk was especially high around the failure of Long-Term Capital Management in 1998 and during the collapse of the technology bubble in 2000. I conclude that noise trader risk is a significant limit to arbitrage. © 2006 Elsevier B.V. All rights reserved.

Cite

CITATION STYLE

APA

Scruggs, J. T. (2007). Noise trader risk: Evidence from the Siamese twins. Journal of Financial Markets, 10(1), 76–105. https://doi.org/10.1016/j.finmar.2006.04.002

Register to see more suggestions

Mendeley helps you to discover research relevant for your work.

Already have an account?

Save time finding and organizing research with Mendeley

Sign up for free