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Time Variation in the News-Returns Relationship

The well-documented underreaction of stock prices to news exhibits substantial time variation, and comoves with institutional capital and trading motives. We show that higher risk-bearing capacity of financial intermediaries and lower passive ownership of stocks increase price underreaction. Changing informativeness of news, measured by entropy, explains a portion of the time variation in underreaction. But the effect of institutional trading motives remains large relative to variation in news informativeness. Controlling for institutional trading motives, as measured by short interest or share ownership, stock prices overreact to news.