Does Divergence of Opinion Affect Stock Returns? Evidence from Japanese SEOs

The divergence of opinion model originally proposed by Miller (1977) has recently received a great deal of attention. Focusing on the unique offering process of Japanese seasoned equity offerings (SEOs), we are able to directly test the Miller model. A comparable analysis cannot be performed on U.S. SEOs. We find our proxy for divergence of opinion is negatively related to stock returns on both the announcement day and the issue day. This implies that the demand curve for the issuing firm’s common stock steepens as the dispersion of opinion for a stock widens. We find that issue size is also related to stock returns on both dates. The relation is stronger for stocks with higher dispersions of opinion. This finding is consistent with Miller’s prediction. We also show that short sales constraints cause market underreaction. Further, we show that manipulative short selling is concentrated around the price determination day. However, our results regarding opinion divergence are free from the manipulative short selling effect.