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A short-term contrarian strategy in the Swedish Stock Exchange

Aspegren, Gustav and Kahm, Henrik (2006)
Department of Economics
Abstract
One of the most important topics in financial literature is the Efficient Market Hypothesis (EMH). Recent financial research has questioned this hypothesis, and many authors have reached the conclusion that a contrarian strategy creates abnormal positive returns. In other words a strategy profiting buying losers and selling winners. To explain this market behaviour researchers have come up with a numerous of hypothesis. The most widely discussed hypothesis is the so-called overreaction hypothesis. It maintains that stock prices systematically overshoot and therefore reversals can be predicted from past performance. In this paper we analyze stock price behavior, in the context of the Swedish stock market. We employ data for the period... (More)
One of the most important topics in financial literature is the Efficient Market Hypothesis (EMH). Recent financial research has questioned this hypothesis, and many authors have reached the conclusion that a contrarian strategy creates abnormal positive returns. In other words a strategy profiting buying losers and selling winners. To explain this market behaviour researchers have come up with a numerous of hypothesis. The most widely discussed hypothesis is the so-called overreaction hypothesis. It maintains that stock prices systematically overshoot and therefore reversals can be predicted from past performance. In this paper we analyze stock price behavior, in the context of the Swedish stock market. We employ data for the period 1995-2005 for stocks listed on A-listan, O-listan, Attract-40 and A-listan övriga. We will investigate the existence of short-term contrarian profits, after a large one-day price change and the sources of these profits. We employ a model following the methods used by De Bondt and Thaler (1985) and a cross-sectional regression model. Our calculations indicate that contrarian strategies are profitable for SSE stocks and more pronounced for the extreme losers. The profits persist even after adjusting for market frictions, such as transaction costs and bid-ask spread. We believe that the main source behind the contrarian profit is market overreaction. Our results do, to some extent, agree with previous evidence published in the subject. This evidence of contrarian profits implies return predictability and possible rejection of EMH in its weakest form. (Less)
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@misc{1335194,
  abstract     = {One of the most important topics in financial literature is the Efficient Market Hypothesis (EMH). Recent financial research has questioned this hypothesis, and many authors have reached the conclusion that a contrarian strategy creates abnormal positive returns. In other words a strategy profiting buying losers and selling winners. To explain this market behaviour researchers have come up with a numerous of hypothesis. The most widely discussed hypothesis is the so-called overreaction hypothesis. It maintains that stock prices systematically overshoot and therefore reversals can be predicted from past performance. In this paper we analyze stock price behavior, in the context of the Swedish stock market. We employ data for the period 1995-2005 for stocks listed on A-listan, O-listan, Attract-40 and A-listan övriga. We will investigate the existence of short-term contrarian profits, after a large one-day price change and the sources of these profits. We employ a model following the methods used by De Bondt and Thaler (1985) and a cross-sectional regression model. Our calculations indicate that contrarian strategies are profitable for SSE stocks and more pronounced for the extreme losers. The profits persist even after adjusting for market frictions, such as transaction costs and bid-ask spread. We believe that the main source behind the contrarian profit is market overreaction. Our results do, to some extent, agree with previous evidence published in the subject. This evidence of contrarian profits implies return predictability and possible rejection of EMH in its weakest form.},
  author       = {Aspegren, Gustav and Kahm, Henrik},
  keyword      = {overreaction,reversal,contrarian strategy,De Bondt and Thaler,Economics, econometrics, economic theory, economic systems, economic policy,Nationalekonomi, ekonometri, ekonomisk teori, ekonomiska system, ekonomisk politik},
  language     = {eng},
  note         = {Student Paper},
  title        = {A short-term contrarian strategy in the Swedish Stock Exchange},
  year         = {2006},
}