Essays in financial economics

In Chapter l, my co-author and I develop a simple model in which trading volume contains information about future stock returns. Specifically, our model explains why high trading volume is observed when a firm announces earnings news and how trading volume can be related to the initial underreaction of the stock price. Our model has a clear testable implication that high abnormal trading volume predicts a stronger drift. We test our model's implication and find strong evidence for the model in the case of positive news. Weaker evidence is found in the case of negative news. We also discuss possible explanations for the asymmetric informativeness of trading volume.; Chapter 2 examines the relation between earnings management and trading volume on the earnings announcement day. Earnings announcements offer opportunities to investigate the effect of private information on volume and subsequent return. Accounting literature provides a way to quantify the private information left unrevealed after the public news release. We use the Jones model to detect the managed portion of reported earnings. We find that positive discretionary accruals, which are used as a proxy for the amount of hidden private information, are positively correlated with volume around earnings announcements. Firms with positive discretionary accruals exhibit negative abnormal returns after announcements.; Chapter 3 is a study into time-series variation in bid-ask spread and return predictability. Using data on individual stocks, we find that there exists a positive relationship between unexpected shock to the bid-ask spread and subsequent abnormal returns over a short period. Regression analysis shows that one-standard-error shock to the relative bid-ask spread increases size-adjusted returns by approximately 0.5% over the next sixty days. The findings are robust to controlling for other factors that predict returns. We also find that the shock to the bid-ask spread reduces first-order autocorrelation of daily returns for individual stocks. We interpret this finding as suggesting that the time-series variation in bid-ask spread is mainly driven by inventory holding costs.