Fluctuations in investor demand dramatically affect firms' valuation and access to capital. To quantify its real impact, we develop a dynamic investment model that endogenizes both the demand- and supply-side of capital. Strong investor demand elevates equity prices and dampens price impacts of issuance, facilitating investment and financing, while weak investor demand instead incentivizes firms to optimally repurchase shares at favorable prices, which can crowd out investment, especially among firms with liquidity constraints. We estimate the model using indirect inference by matching the endogenous relationship between investors' portfolio holdings and firm characteristics. Our estimation suggests that investor demand substantially distorts firms' real investment decisions and impedes the efficient capital allocation across firms. Eliminating excess demand reduces dispersion in the marginal product of capital by 10.74% and TFP losses by 16.20%. Investor demand also influence firm size distributions and generates a heavy right tail---large excess demand provides firms with market power and opportunities to profit from their financial market activities, contributing to the emergence of superstar firms.

Using block trades data on the Shanghai Stock Exchange (SSE) from 2003 – 2009, we study the pricing mechanisms of block buys and sells. We show that block trades are priced at discount (premium) for sells (buys). The discount/ premium varies depending on the characteristics of the stocks traded, the complexity of the trades, and also on whether the trades are internalized. We also study permanent and temporary price impact of the trades. As expected, seller-initiated trades do not seem to be information related as there is no significant information content. On the contrary, the prices decline after buyer-initiated trades, suggesting that buyers do not possess private information which leads to a permanent shift in prices. Temporary price impacts of all trades are large in magnitude and statistically significant, reflecting compensation for locating counterparties and the cost of negotiating terms. This suggests that the information platform on SSE for locating counterparties is yet to be fully developed to help reduce the transaction cost of block trades.

This paper considers informed traders’ trading strategies in a bear market. Known as stealth trading, one strategy of informed traders’ is to use medium-size trades, which tend to contain more information than small- and large-size ones and thus to have stronger impact on stock price movement. Using the tick-by-tick data of Shanghai 180 Index Component Stocks, we document the strong pattern of stealth trading in Chinese stock market during the period of June 1, 2004 to May 31, 2005, which is: (1) an order-driven market; (2) a market that has limit orders only; (3) a bear market; (4) a market with no corresponding derivative market; (5) a market with short-selling constraints; (6) an emerging market. The results extend the empirical evidence on the stealth trading by documenting the fact that price movements are mainly due to the medium-size trades. We find that the pattern in a bear market is highly consistent with that in a bull market. First, we observe that the per-transaction stock price changes in different trade-size categories exhibit a clear U-shape and only the price changes induced by medium-size trades are consistent with the market movement direction. We formally test the stealth trading as well as four alternative hypotheses, and conclude that stealth trading hypothesis can correctly explain this phenomenon. Second, the evidence shows that the medium- size trades have stronger impacts on price change s in the stocks whose price movements are highly consistent with the market (in our study, it refers to those stocks with severely low cumulative return in the sample period). Third, we further document that there is strong interaction between stealth trading hypothesis and order imbalance hypothesis. However, after controlling the effect of order imbalance, the stealth trading hypothesis still holds, but the magnitude is much lower. It is suggested that the follow-up researchers take into consideration the effect of order imbalance, when confirming the existence or the magnitude of the stealth trading.

In 2005 and 2006, the split-share structure reform converted the nontradable shares of most domestic public firms in China to tradable shares. This conversion imparted a drastic supply shock to the public market. Studying this unique event, we provide direct evidence to support an inelastic demand curve for stocks. Abnormal returns of the sample firms resulting from the reform are found to be negatively associated with the size of the supply shock. This finding is free from the confounding information effects present in many prior studies of stock price elasticity. It is also robust after controlling for opposite price impacts of ROA, firm size, and ownership concentration.