Stock Market Concentration and Price Informativeness

Abstract

We study how the composition of the market portfolio shapes the production of information. In an international panel of 43 economies over 2001-2022, prices in more concentrated equity markets forecast future fundamentals more strongly. We interpret this finding through a model of trading and endogenous information acquisition by investors with market power. As dominant assets grow, they generate additional supply noise that would reduce price informativeness if information choices remained fixed. Their growth raises the return to learning, inducing
investors to expand total research. Because additional capacity has an increasing marginal cost, this expansion coexists with a reallocation of research toward the growing assets and away from an asset whose own supply is unchanged. Additional learning and more aggressive informed trading together more than offset the added noise. Consistent with the model, the empirical gains in informativeness are larger for larger firms. The framework also predicts that concentration of the market portfolio raises price informativeness while concentration of the investor base lowers it, a contrast we also find in the data. Joint paper with Jaromir Nosal, Tianyu Wang and Jingcheng Yang.