Trading Imbalances and the Relative Prices of Stock Pairs

This paper studies the relative prices of dual-class shares - i.e., equities from the same company that are listed on two different markets. Theoretically, frictions such as short-sale constraints and limited risk-bearing capacity can lead identical securities trading in different markets to experience large and volatile price differences. Using a sample of 43 companies with stocks listed in China (mainland) and Hong Kong, we link trading imbalances to these large and volatile price differences. A one standard deviation shock to imbalances in China (or Hong Kong) leads to 166 bp (or 122 bp) change in the stock's transitory price (at a weekly frequency). We further show that transitory variance represents 45% of a stock's total return variance in Hong Kong. Such a magnitude is surprisingly large considering the average company's market capitalization is over USD 12 billion and Hong Kong is considered to have a developed stock market