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Do Individual Investors Affect Share Price Accuracy? Some Preliminary Evidence

Alicia Davis Evans, University of Michigan Law School

Abstract

A common belief is that individual investors are noise traders that distort stock prices. Because accurate share prices are important for economic functioning, the market effect of retail investors has significant regulatory implications. This paper, employing a new NYSE retail trading data set and the R2 metric of share price informedness, contributes to the debate by demonstrating that as the proportion of trading by individual investors increases, the R2 of firms decreases. Adherents of the R2 methodology hold that lower R2's imply more accurate stock prices. The results of an instrumental variable estimation suggest that this relationship is a causal one (that is, retail trading causes changes in R2). Thus, if a low R2 indeed signifies share price accuracy, the findings of this study provide evidence that, contrary to the received wisdom, retail trading increases share price accuracy.

Subject Area

Banking and Finance, Securities Law

Recommended Citation

Alicia Davis Evans, "Do Individual Investors Affect Share Price Accuracy? Some Preliminary Evidence" (January 2009). University of Michigan Legal Working Paper Series. University of Michigan John M. Olin Center for Law & Economics Working Paper Series. Working Paper 75.
http://law.bepress.com/umichlwps/olin/art75

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Jul 15 2008

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