Empirical Evidence of Feedback Trading and Stock Return Autocorrelations

This paper studies the pattern of autocorrelation of stock returns in Shanghai stock market, assuming that some investors follow a positive feedback trading strategy. The sample is the daily returns from September 29 of 1992 to September 30 of 1997. In addition, GARCH(1,1) model is adopted to deal with heteroskedastic property of return volatility, and the maximum likelihood method is used to estimate the model parameters. The positive serial correlation caused by nonsynchronous trading and nonsymmetry of feedback trading are also considered in the model. The empirical results show that in addition to positive serial correlation described in previous literature, there is a strong evidence that positice feedback trading induces negative autocrrelation in index stock returns, which in absolute terms increases with volatility. Thus the autocorrelation of index stock returns and volatility are related.