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Keywords:

  • price speed of adjustment;
  • high and low book-to-market stocks;
  • limits to arbitrage;
  • idiosyncratic risk;
  • G11;
  • G12;
  • G14;
  • G32;
  • G35

Abstract

This study documents that high book-to-market (value) and low book-to-market (glamour) stock prices react asymmetrically to both common and firm-specific information. Specifically, we find that value stock prices exhibit a considerably slow adjustment to both common and firm-specific information relative to glamour stocks. The results show that this pattern of differential price adjustment between value and glamour stocks is mainly driven by the high arbitrage risk borne by value stocks. The evidence is consistent with the arbitrage risk hypothesis, predicting that idiosyncratic risk, a major impediment to arbitrage activity, amplifies the informational loss of value stocks as a result of arbitrageurs' (informed investors) reduced participation in value stocks because of their inability to fully hedge idiosyncratic risk. Copyright © 2009 John Wiley & Sons, Ltd.