Information Production, Volume, and Return Dynamics

We study volume-return dynamics using a framework in which information flows are endogenously determined and linked to a firm's investment activities. The framework generates time-varying differences of opinion (across investor types) and trading volume, especially when a firm receives unexpectedly positive news. In addition, the framework produces cross-sectional variation in the ability of volume shocks to predict future returns (often referred to as the "high volume return premium"). Using monthly CRSP data, we document that the high volume return premium is economically and statistically stronger (increases from 5.5% to over 10% per annum) for firms exhibiting poor stock market performance prior to volume shocks; for firms receiving positive news contemporaneously with a volume shock; and for firms with high degrees of information asymmetry. Volume shocks around earnings announcements provide additional support for this information-based framework