Stock market liberalization and institutional herding: Evidence from the Shanghai-Hong Kong and Shenzhen-Hong Kong Stock Connects

Using the Shanghai-Hong Kong and Shenzhen-Hong Kong Stock Connects (the Connects) as exogenous shocks to the liberalization of China's A-share markets, we study the impact of stock market liberalization on the herding behavior of domestic institutional investors. We find a robust and negative impact of the Connects on the level of institutional herding in connected Chinese A-share stocks. The impact is more pronounced for firms with smaller market capitalizations, less analyst coverage, or higher stock illiquidity, i.e., firms with higher information asymmetry. Moreover, the Connects improve the transparency of connected firms by improving audit quality, decreasing earnings management, and reducing stock price synchronicity. The improvement is greater for stocks that are more intensively traded by Hong Kong investors. Finally, the Connects amplify the price impact of institutional herding without causing price reversals. Overall, our results suggest that the Connects reduce the institutional herding in connected A-share stocks by reducing information asymmetry.