Academic Paper: The Equity Market Implications of the Retail Investment Boom

Paper from late January 2021 quantifying the impact of Robinhood traders on the market. Interesting to see some numbers on this. I’ve pasted the Abstract & Conclusion below; see the link above for the full paper. Comment with any thoughts.


Retail trading activity has soared during the COVID-19 pandemic. This paper quantifies the impact of the retail investment boom on the US stock market within a structural model. Using account holdings data from the online trading platform “Robinhood Markets Inc.” and 13F filings, we estimate retail and institutional demand curves and derive aggregate pricing implications via market clearing. The inelastic nature of institutional demand allows Robinhood investors to have a substantial effect on stock returns during the COVID-19 pandemic. Despite their negligible market share of 0.2%, we find that Robinhood traders account for over 7% of the cross-sectional variation in stock returns during the second quarter of 2020. We furthermore show that without the surge in retail trading activity the aggregate market capitalization of the smallest quintile of US stocks would have been over 30% lower. Lastly, Robinhood traders are able to affect the price of some large individual companies that are being held primarily by passive institutional investors.

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This paper investigates the effects of retail trading activity on the US equity market within a structural model. To quantify the respective impact of retail and institutional demand on the US equity market, we use the Demand System Approach to Asset Pricing introduced by Koijen and Yogo (2019). We find that the majority of all institutional investors – who hold over 60% of the market – have inelastic demand. Because they respond inelastically to price changes, the small retail sector can have substantial price effects. We show, that over 7% of the cross-sectional variation in stock returns during the pandemic can be attributed to the demand of Robinhood traders. They furthermore alleviated the stock market crash during the first quarter of 2020 by 2%. By buying the small cap stocks that institutions were fire-selling they provided considerable liquidity to the US stock market. Robinhood traders also boosted the recovery in Q2 by adding 1% to the aggregate stock market valuation. Given our approximation of their assets under management, this implies a multiplier effect of 5. The price impact of Robinhood traders is concentrated towards small cap stocks and the consumer staples industry. However, they are able to affect the price of some large companies, which are being held primarily by passive investors. Our analysis shed light on the intricate relationship between retail and institutional investors. The Demand System offers a feedback mechanism in which one agent’s demand shock reverberates on another’s demand function through market equity. We show that when institutions react sluggishly to non-fundamental price changes, the mechanism stifles and retail demand shocks can have substantial impacts on stock prices. Our findings have important implications for policy makers. Large scale policies, such as the 2020 CARES act, have the potential to move prices considerably far from their fundamental values, if households invest rather than consume their share. Moreover, the prominent role of Robinhood traders in driving returns evokes concerns about the future role of retail trading in equity markets. If – facilitated by novel fintech solutions – the retail sector continues to grow its wealth share, the extraordinary volatility observed during the pandemic may turn out to be the new normal.

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h/t straydogindc


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