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Rev Fin 1990; 3:175-205
© 1990 the Society for Financial Studies

Article

When are contrarian profits due to stock market overreaction?

AW Lo1 and AC MacKinlay2
1 Sloan School of Management, M.I.T., 50 Memorial Drive, Cambridge, MA 02139, USA
2 Wharton School, University of Pennsylvania, Pennsylvania, USA

Abstract

If returns on some stocks systematically lead or lag those of others, a portfolio strategy that sells 'winners' and buys 'losers' can produce positive expected returns, even if no stock's returns are negatively autocorrelated as virtually all models of overreaction imply. Using a particular contrarian strategy we show that, despite negative autocorrelation in individual stock returns, weekly portfolio returns are strongly positively autocorrelated and are the result of important cross-auto-correlations. We find that the returns of large stocks lead those of smaller stocks, and we present evidence against overreaction as the only source of contrarian profits.


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