Can Industry-level Trade Linkage Predict Stock Returns?†
Abstract
In this paper, I test whether cross-predictability exists among trade-linked industries across international borders and explore possible explanations for this. I find strong evidence of cross-border stock return predictability among trade-linked industries. A trading strategy of buying industry portfolios for which trade-linked industry had high returns, and shorting industry portfolios for which trade-linked industry had low returns, yields an annualized return of 12%. Such returns cannot be explained by known risk factors and are different from industry momentum. I find some evidence that counters the information segmentation explanation for cross-predictability and find support for illiquidity as a new channel of explanation.