Pricing Dynamics and Risk Taking in Partially Segmented Incomplete Markets

I examine the dynamic pricing of multi-listed equity shares from the universe of Chinese companies traded in mainland China (A-shares) and Hong Kong (H-shares). Even though each equity pair represents the identical claims to the residual earnings of a single entity, which the investors are entitled to same dividends and voting rights from either share class, persistent and time-varying differences are priced in the majority of such shares.
In this paper, I provide a review of the extant literature, and subsequently I describe and analyze how different local market environments affect the cross-market A-H share price disparity. Differing from the theory proposed in Heaton and Lucas (1994), I argue the contrary and empirically test whether market incompleteness, notably evidenced by the lack of financial innovations and the capital account restrictions in mainland China, lowers the equity risk premia in the mainland market on an aggregate level. Drawing from the conjecture in Fernald and Rogers (2002), I show that the variation in the aggregate A-H share premia can be explained by the risk profiles of alternative investment vehicles in mainland China. Finally, using a unique account level brokerage data-set, I extrapolate the contributions of noise-driven investors to idiosyncratic mis-pricing through event-driven studies.