Cross-Border Equity Flows and Information Transmission: Evidence from Chinese Stock Markets

This paper examines the effects of bi-directional cross-border equity flows on stock returns, volatility and valuation differential using the unique Stock Connect program in China as a natural experiment. Via Stock Connect, investors from Hong Kong (mainland China) can trade qualified stocks listed in Shanghai (Hong Kong). We find that southbound (northbound) investors net purchases predict returns of Hong Kong (Shanghai) stocks. However, southbound and northbound trades exhibit asymmetry in volatility-volume relationship; there is a positive (negative) relationship between lagged southbound (northbound) volume and volatility of connected stocks in Hong Kong (Shanghai). Southbound investors net purchase is positively related to lagged AH share price premium for dual-listed stocks and such trades reduces future valuation differential. Our study shows that stock market integration facilitates information sharing and narrow valuation differential across previously segmented markets. But the effects of stock market integration depend importantly on local market environments such as investor clienteles.