‘inanc Hescarch Letters 55 (2028) 103872 ‘Contents lists available at ScienceDirect Finance Research Letters ELSEVIER journsl homepage: wn. sleeviercomvlocste' io Foreign ownership, heterogeneous beliefs, and stock market volatility ‘Mengyang Zhao”, Lingxiao Zhang” Schafer Managment, Hari gierig Unves,Helongang arin 13000, China "suhag nance, hogan Une eam la, Waa Ce Rees This paper cramines the eect of foreign ownership on sock market volatility, and farer org ameiip explore the mediating effec of heerogeneos belie on the above relationship. We ve the dat terreus nvr beets ‘fom Chin's stock markets in 2015 t9 2021, present evidence that foreign ownership sgn- Sok marie rlety cay ede tock market vlatlty and heterogeneous investor beliefs are mediating variables for foreign ovmerhip in infiening stock market veal. To verity the robusta of the = sults, we conduct farther test by changing the mean of heterogeneous invertor belies and ‘eling contol variables nd all ndings are consistent 1, Introduction ‘The volatility of stock market has significant impacts on the stable growth of capital market To alleviate the excess volatility, China thas been developing institutional investors since 2001 besed onthe belief that these investors tend to exhibit more rational investment behaviors and foeus on long-term investments. Hoviever, the stock market crash in 2015 has rssed questions about the effectiveness of Incitutional investors in stabilizing the stork market. Asa result, there isa growing concern among investors, listed companies, and polieymakers about whether an increased presence of insltutona investors in Cina can truly lower the stock markets volatility over ‘the Long term. Additionally there is a need to explore how changes inthe shareholding ratio of institutional investors might affect the stock market's volatility, Overall, the relationship between institutional investors and the stock markers volatility remains an important topic of discussion and research, Institutional investors have more professional analysis ability and prefer long-term investments tobe small and medium investors, and institutional investors have more rational investment behavior. n recent decades, the insttuicnalization of investors has become Increasingly evident in developed and developing countries, and institutional investors have gained rapid development in the global financial markets, Institutional investors have played an irreplaceable ole in Western capital markets and have played a crucial olen stabilizing capital markets and improving the governance of listed companies. Intecent years, scholars have conducted extensive research on che relationship between institucional investors and stock market volatility. These studies have yielded fruitfl results into key areas. Firstly, sensibie investments by institutional investorsean help to reduce stock market volatility and improve the overall seucce ofthe secuetes market (le, 2021) Secondly, rational behavior among institutional investors, such as the herding effect, can inerease stock market volatility anc! Tead to loal or spsterne risks (Wang ft al, 2019), Against this background, this paper seeks to analyze the relationship between foreign institutional shareholding, * corresponding author mal addres 20209040014: me oenen Zan. axips//dol.org/10.1016/ :2022,103872 ‘Received 12 March 2025; Received in revised form 4 Api 202%; Acepted 7 April 2028, ‘slab ooline 12 Api 2028 1544-6123/0 2023 Elsevier Ins Al igh reservedZhan anit Zhang ance Rach Lees 55 (229) 10872 hheterogeneous beliefs and stock market volatility from the perspective of behavioral finance. It aims to examine the transmission mechanism between foreign institutional shareholding and stock market volatility and provide a systematic analysis of the impact of foreign institutional shareholding on stock market volatlity in China's specific environment. Drawing on both domestic and foreign theoretical and empirical research on the impact of institutional investors on stock market volatility, combined with China's current actual situation, this paper further enriches te theoretical study on te role of foreign ownership and stock market volatility. By doing So, it helps us gain a better understanding of the role of foreign institutional ownership in emerging capital markets and determine ‘whether its introduction in China ean achieve the desied outcome of stabilizing the capital market. the empirical cesults show that foreign ovenership reduces stock market volatility and that heterogeneous investor beliefs are some of the mediating variables of foreign ownership affecting stock market volatility. In oder to verity the stability ofthe reslis, we conduct sability tests by increasing the sample size, changing the measure of heterogeneous investor beliefs, and adding control variables, All ofthese reulls eventually prove tobe stable. This shows that foreign instcutionalshareuolding stabilizes stock market volatility, and foreign institutional shareholding affects stock market volatility parlly through the propagation of heterogeneous {investor beliefs, The advocacy of foreign instittional shareholding is beneficial to developing the capital market. ‘The main contributions of this peper are as follows: First, this paper combines foreign insittional holdings, investors’ hetero- ‘geneous belits, and stock market volatility, hoping to explore the mediating effect between heterogeneous belics inthe transmission ‘mechanism of foreign institutional holdings affecting stock market volatility through theoretical analysis as well as empirical research, hich enriches the theory eelated to foreign instiutiona holdings. Second, by constructing a mediating effet test model and analyzing the regression results, we conclude that foreign institutional shareholding reduces stock market vray. This conclusion is consistent ‘with China's poiey of encouraging foreign institutional shareholding, which has specific polly implications. 2, Theoretical analysis and research hypothesis Stock market volatility is divided into average volatility and abnormal volatility. Generally, stock prices are determined by the capital market's forces of supply and demand. This contrast between the forces of supply and demand inthe capital market constantiy changes with the information that appears in the market (Fran et al, 2019). To a certain extent, this stock price volatility provides liquidity tothe capital market, Ithelps to reflect the actual value of stocks, whichis necessary forthe normal functioning ofthe capital ‘marker (NieCarhy cts, 2021). ABnormat volatility usually arises from other factors unvelated to a stock's actual value, such as institutional investors’ heterogeneous beliefs and changes in shareholding ratios that can esse market price fluctuations. Average stock price volatility has a stabilizing eect on the capital market. It contributes tothe healthy development of the capital market, while the opposite i detsimental to the interests of investors at large (PH et al, 2020). One ofthe essential aspects of heterogeneous belie affecting stack market volatility is nose trading, Since each investor gets diferent information from the capital market and only some investors have access to valid information about the actual value ofa company, investors make investment decisions based on the {information they get. Then these investors who do not have access to accurate information generate nose trading (ven ea, 2020) ‘When there are a large numberof auch noisy trader inthe market, te stock's market price will include this noise and eventwally form noisy price (ets, 2019), The differences among investors in the capital market come from the differences inthe information they receive on the one hand and the different cognitive abilities of investors to perceive the same information on the othe, Each investor his a different ability o process and use information. The heterogeneous belief model classifies investors into optimistic and pess- mst investors (990 e a, 2023). Inthe presence of short-selling restretions in the market, optimist investors’ sentiment de- termines the price of stock, which can ease the stock price Co deviate from the company’s Fundamental valve and this exeate a ‘bubble, Based on the diferent perception of information, investors use different psychological resto judge stock prices ‘The purpose of introducing foreign institutions into China's stock market is to altract more foreign vale investors and foreign capital to enter the stock market and to guide Chinese investors to form a more mature value investment concept through the sharcholding behavior of foreign institutions (Koosaku! cal, 2021), thus playing a role in stabilizing the market. Individual investors hhave long dominated China's A-share marke, and individual investors have a strong sense of speculation and are prone ta irrational Snvestment behavior. Foreign institutions as foreign institutional investors, havea relatively rational value investment philosophy compared to retail investors and will not engage in too frequently short-term operation in consideration of transaction costs. Ghosh eral (2020) argue that foreign institutional shareholding reduces stock market volatility by improving market information asym retry, the governance level of listed companies, andthe information content of stock prices, However, ti also possible that the irrational behavior of investors or the spillover effect of domestic and Foreign stock markets make foreign ownership not stabilize the ‘market but exaeerbate i. The irrational behavior of investors or the spillover effect of domestic and foreign stock markets exacerbates the market's volatility, Most foreign institutions ia China tend to hold stocks inthe medium and long term and prefer mature en- terprises with good performance and stable development. From the typeof foreign institutions, most foreign institutions in China are sizeable financial investment groups with rich investment experience and professional research teams. Their value investment and long-term investment behavior are more pronounced. Thus, it can be seen that with the increasing scale of foreign institutions’ shareholding, foreign institutions ownership has a cerzn proportion in tne market value of Ashares in circulation, which will lay a particular role in mitigating stork market volatiliry (chinimwal ct a, 2020) In adeition, inthe long run, the capital market wil slowly evolve into a game between inttutonsl investors asthe regulatory system inthe financial market continues to improve, and there are fewer opportunities for speculation using gray areas. Inthe past, ‘when individual investors played with institutional Investors, there was a large amount of information asymniety between the two. However, now the patern has evolved into one between institutional and sstculanal investors, which means that che information asymmetry between institutional investors has increased (Bossman etal, 2022). In the ease of information asymmetry, multiple1M 2h anit. Zhe ance Rah ee 5 (229) 10872 institutional investors will sell or buy a stock simultaneously. There will be checks and balances between diferent institutional in- vestor so chat one institution will influence stock market fluctuations les and less. The capital market will become fre and every Snvestor wil seriously consider the actual value of listed company and use more professional investment theories and models to guide ther investment. Tae capital market will become more rational inthis judging system relying on value investing. The stock market's volatility wil be reduced as a result (Lect a. 2021) ‘Therefore, ths paper proposes the following hypothesis, LH: An increase in foreign ownership of instcuional shares can reduce the volatility ofthe stock market Therefore, this paper proposes the following hypothesis. ‘Whea more and moze foreiga instivutions are introduced Into listed company, not only do the foreign institutions themselves esi to improve the company’s information disclosure, but the operators of the listed company also have the incentive o improve ther information transparency. When information transparency inthe capital market increases, the information available to various investors becomes less differentiated. Their perceptions of the company’s future stock movements are les variable (ange, 2020). ‘An increase in foreign institutions’ ownership can increas the firm's information diselosur level and reduce heterogeneous beliefs. AS 1 shareholder, foreiga institutions will ry to improve the disclosure quality of listed companies to protect their interests (Pon ct 2021). When the proportion of foreign institution in a company increases, this demand for information disclosure wil strengthen. Company insiders are more quickly informed about the operations and significant events of the listed company. However, as outside Jnvestors are unaware of the opportunities or risks they may have, they may make wrong investment decisions and affect the listed company (Siddiqu! et al, 2015). When foreign Insitutions inerease their ownership ofa listed company's stock, the quality of in- formation disclosure ofthe listed company will havea significant impact on te investment decision of institutional investment; When the listed company’s business situation is getting beter, the positive information disclosed will make foreign institutions continue to hold this stock when the company’s busines situation has declined, foreign insittions will abandon this stock; however, if the {information disclosed by the listed company is false However if the information disclored by the listed company i false, then as professional investors may identify such information and take more aggressive approaches against the company (a0 cal, 2021). ‘Therefore, listed companies will disclose higher-quality information considering the various implications ofthe information they sead ‘out. When institutional investors hold an increasing proportion of a company's stock, it increases the degree of information disclosure of listed companies, reduces the information asymmetry between insider ané foreign instiutions, foreign institutions and small and ‘medium investors, and small and medium investors, and reduces the heterogeneous beliefs of investors inthe capital market, Therefore, ths paper proposes the following hypothesis, 12: There i a negative relationship between the ownership ratio of foreign institutions and investors" heterogeneous beliefs So fat, most theories at home and abroad have considered that foreign institutional ownership diveetly affects stock market volaity trough the above-mentioned rational investment (Oshima, K. 2021), Through the peevious analysis, we found that foreign inututions have the ability and motivation to improve the quality of information disclosure of listed companies due to their pro- {essionaism, rational investment behavior, nd the role of shareholder of listed companies, thus reducing the heterogeneous beliefs among investors. Heterogencous beliefs among investors, which ia tur is an important influencing factor on stock market volatility. Therefore, we argue here that the effect of foreign insitational ownership on stock market volatility canbe transmitted to stock market volatility through the mediating effect of investors’ heterogencous beliefs. When foreign institutional ownership and stock market volatility are treated as independent and éependent variables, respectively, investor heterogencous beliefs are intermediate variables between the two Therefore, this paper proposes the following hypothesis, 13: Heterogeneous beliefs are the mediating variable of institutional investors" influence on stock market volatility. 3, Research design 2.1, Definition of variables Foreign ownership ratio orshare: Since the capital market development of each country i diferent and the investment subjects in ‘the capital market aze diferent, the scope of institutional investor is also difereat foreach country, 80 foreign ownership is measured ‘sing qualified foreign institutional investors, The proportion of foreign shares among the top ten shareholders measured asthe sim ofthe share capital of foreign shares. Heterogeneous beliefs (eter): There are many turnover measures, including analyst forecast divergence, bidask spreads, ummover rates, additonal turnover rates, and standardized unexpected trading volume. Since iavestors in the market hold diferent views on ature stock marker movements and pessimists sll stocks to optimists, Gabaix ct al. 2021) argued inan earlier study thatthe tumover rate isa more scientific proxy for heterogeneous investor beliefs. In this paper, we propose to use the average daily turover rate and ‘the additional turover rate over six montis asa measure of heterogeneous investor Beliefs, The calculation formula is as follows. eter = 32> ten hea = OO + 10% eter = (heteny beter) ~ (hte heer 3) 2 ‘Where heeras the individual trading day turnover rate, Qs the Individual trading day volume, Qry is the total number of shareszien ant. Zhang once Rach ee 5 (229) 10872 ‘able Variable definitions near ame Ska Beinn ae Toshare Thea of te shar cpa ftp ten sare wine ‘outstanding on that day, mis the numberof semi-annual trading days, heter isthe additional turnover rate, and het the voucher tumover rate of all stocks forthe period. ‘Stock market volatility (vala): The ace is elected asthe standard deviation of semi-annual weekly returns as a proxy for stock smarket volatility, according tothe semi-annual cycle, n weeks are split in six months, andthe closing pice ep ofthe last trading day of ‘each week and the previous closing price bp! of te initial trading day are obtained, with "epi/bpi ~ 1" as the interval of yield, and finaly ealeulate the volatility (vala) ofthe stock price according to the formula oly = + Sheer + Byres + Barat, + Beta, +-€ ‘The article performs the selection of control variables according to Ve ct al (2020), which inelude total net asset margin (rat), ‘outstanding shares to total equity (sv), gearing rato (asa), systematic risk (beta), and frm size (sige). The relevant variables and thelt ‘meanings are presented in Table | 122, Model construction Firstly, we construct a model with the average daily tarover(heter) asthe independent variable and the stock market volatility (vola) a the dependent variable. vol = By + heer + Byoset + Byate, + Babee, +-€ a Secondly, we construct the model using institutional foreign ownership rato (forshare) as the independent variable and stock ‘market volatility (vola) as the dependent variable. vole, fy} eforahare, | Busse + Byte Bybee, 6 € 2 Thirdly, we construct the model with institutional foreign ownership ratio Jorshare) as the independent variable and the turnover rate (heer) asthe dependent variable, ° Finally, we construc the model with insticationalforeign ownership ratio (frshare) and turnover rate (heter) as independent variables and stock market volatility (ola) as dependent variables. eter, = Bs + auorshare sey + Brat, + Basie olay = By + Sherer + aforshare, + yrae, + beta + Byaser +6 o ere, we need to draw on the method of mediating effect test, which is integrated ontop of the sequential tet and sobel test, and the model is regressed step by step through (1), (I), and (IV) to draw the final conclusion. First, test the final regression resulis of equation 1), if the coefficient ay of foshare cannot pass the significance test, we consider thatthe mediation effect of heterogencous beliefs of investors doesnot exist, iit passes the significance test, we have to enter the second step: in the second step we need 10 analyze the regression results of equations Il) and (V), if te coeicent ay of forshare in mode (II) and the cocficient 8 of model (QV) ae signifcany, then the mediating ulity of investor heterogeneous beliefs exist; in addition, ifthe coefficient ay of frshare in ‘model (IV) is not significant, it means that investor heterogeneous belies are fully mediating effets, and if the coefficient as Is sig- fifleant and ais smaller than the coefficient ay of he in model (U0), it means that investor heterogeneots beliefs play partial mediating vty 3.3. Sample selection and datasources The research subjects ofthis paper are companies listed in the A-share market before 2015, and the research interval frm 2015 to 2021, based on semi-annual data, with a data frequency of 14 periods Similar to similar studies, we remove stock trading discon- ‘Unvously for various reasons, and all data ate obtained from the wind database, In addition, when selecting data for institutionalMe Zhao and. Png once Rach ee 5 (229) 10872 Deseripive sais Year vere oe meee = in aa Joare 2iss m9 eas, few Saas 2381008 p08 oshre 205 nm ase re nana 20.069 799.826 ost ar Bion cas foshre 31798 2s sana ae foshre m0 a Se aoe 220 vole as Seas) ter ° 2101 fashre 207 maw 1803 Sor fen 202 vole 261 seas7 team ° a0 foshre ase paar a7 Soa og fore 199 aan men Sn esse to tea rons oy “ho58 an investors, stocks with holdings below 596 are excluded. This paper argues that alow percentage of institutional holdings has a negligible impact on stock market volatility, resulting in unbalanced panel data for 19,013 samples of 1486 stocks. 4. Empirical analysis 4.1, Deserpive statics analysis ‘The statistical results in Table 2 show thatthe average per stock market volatility ofthe sample companies for each year since 2015 Js decreasing, indicating that our stock market is becoming more and more stable, However, by 2022, stock market volatility willZhan anit. Zhang once Rach ee 5 (229) 10872 Tables oni ons ame Case cain o ean ue eran) (ss20) oe 20160 2n.80 aouas Table 4 intermediary fect est o ; cian G49) 025) Gain oan en ran (sss 29 Increase. As it corresponds to foreign ownership, we can se that the percentage of foreign ownership constantly rises from 2015 to 2021 and decreases in 2022. The percentage of foreign ownership shows a negative relationship with stock market volatility. Investor hheterogencous belief ae higher in 2016 and 2022, whichis related to the uncertainty of economic recovery in 2015 and the stock ‘market shocks in 2022, and the difference between the maximum and minimum values of heterogeneous beliefs in each year is sg- nificant, which indicates that investor heterogeneous beliefs vary widely. The size of total company asses (siz) belongs toa growing process. The mean value of size in the sample fom 2015 is 0,916, and by 2022 the mean value of size is 1.733, 4.2, Baseline regression analysis Tole 3 shows the egresion results ofthe three models. and Il, Fist, we ook at the regression of modell The regression resus show that there is 2 significant negative corcelation between foreign ownership (forshare) and stock market volatility (vola), which ‘means that an inerease in foreign ownership helps to reduce stock market volatility, which proves hypothesis 1; then we look at the sodel I, andthe regression results show that heterogeneous investor The regression results show that there is a significant postive correlation between investors’ heterogeneous beliefs (heer) and stock market volatility (vole). The increase in investors’ heteroge- neous beliefs will increase stock market volatility. On the contrary, the decrease of investors’ heterogeneous belies can reduce the stock market volatility in the regression results of model I, we can se that thee sa significant negative coreltion between foreign ‘ownership (forshare) and Investors’ heterogeneous beliefs (heer) The regression results of model 1! show a significant negative correlation between foreign ownership Vforshare) and heterogeneous investor beliefs (eter). Increasing foreign ownership reduces heterogeneous investor beliefs, which verifies hypothesis #12. this may be because institulonal Investors are more cautious in the process of trading; secondly, institutional investors have the advantage of information” compared to insigual investors and are more2h anit. Zhang once Rach ee 5 (229) 10872 Tables Analysis of pression result le replacing the poy for turnover ate ei rr oe Tea 388 ance) 398) sr aonsezan) oroersaa| oe s.asosree oie nave) aor aus) om as oun a7) ee 15290" sera. 7 aasaree aw ee) oy asaroa79) saaaeres Sora ears (ean) Con ook ou om ry aon) oon cary 7 (00) om (aus) as om rea Cas ears) (ws) 212) professional in handling information due to their internal expertise; thirdly, institutional investors are more rational and less inlu- enced by noise in the process of investment ‘Among the other control variables, we find that systematic risk (beta) is significantly and negatively correlated with stock market volatility (ola) and heterogeneous investor beliefs (hte), and based on the previous correlation analysis, we find that the share of ‘outstanding shares is positively corelated with foreign ownership. An increase in foreign ownership reduces heterogeneous investor beliefs and stock market volatility, which is also consistent with our expectations. Tis (also consistent with our expectations 43, Intermediary effect analysis able 4 purs the regression results of models l,l, and IV together. According tothe test of mediating effect, Fstly, we observe the coefficient of foreign ownership (frshare) in model I. Since «is significant, next, we need to observe the coefficient of fr in the ‘model (1) and the coefficient ofthe turnover rate (ete) in the model (IV), and since both a and are significant. The coefcient ‘of forsharin the model (IV is smaller than the coefficient oh in the model (1D, which indicates that investor heterogeneous beliefs play a partially mediating wility Institutional investors area partially mediating variable in the inTuence of institutional investors hhoings on the stock market, which verifies our hypothesis 44, Robusmess test Inthe above, we chaose the measure ofheterogencous investor belief asthe tumover rate Because not only investor heterogeneous2h ant. Zhang ance Rach tane 5 (229) 10872 beliefs wil affect the tarnover rate, but the announcement information content and ligudity changes will also have an impact, so some adjustments should be made to make the turover rate adjusted more smoothly, we choose the corrected average daily turnover rate (erer1) hereto conduct the smoothness et, through Table S we found thatthe final results also di not change substantially. tis seen that shre isa significant negative relationship berween foreign ownership and investor’ heterogeneous beliefs. An inrease is foreign ‘ownership can reduce investors’ heterogeneous belief ‘After summarizing the research analysis of domestic and foreign scholars, we found that the relationship between foreign ‘ownership, heterogeneous investor beliefs, and stock market volatility is not only elated to systemic risk but also related tothe ratio of ‘outstanding shares to total equity hr) ofthe company, so we considered adding the control variable ofthe ratio of oustanding shares to total equity (st) when conducting the stability tes, and the fnal regression results are shown in the table below, the ratio of ‘outstanding shares to coal equity (sh) has a significant negative relationship with heterogeneous investor beliefs and stock market volatility, and the final results, reported in Table 6, are unchanged. 5. Conclusion ‘This paper selects date from A-share listed companies from 2015 to 2021 for descriptive statistics, correlation analysis, and un- balanced panel data regression analysis to verify the existence of mediating variables of investors’ heterogeneous beliefs. The final egresion results show that: the increase of foreign ownership is beneficial to reduce the volatility ofthe stock market; the increase of foreign ownership can reduce the heterogeneous belief of investors; the change of hands rate shows a postive relationship with the volatility of stock marker; the heterogeneous belief of investors sa mediating variable of foreign ownership affecting the volatility of the stock market. The model passes the stability test by increasing the sample size, changing the proxy variable of heterogeneous investor belief, and inereasng the control variables, which shows that foreign ownership stabilizes stock market volaity, and foreign ownership affects stock market volatility partly through heterogeneous investor beliefs. We ean further regulate the behavior of listed companies, improve the supervision system ofthe capital market, and strengtsen the punishment for malicious acts destabilizing the ‘capital market. In that case, the roe of foreign ovmership in che capital market can be more effectively played. In adlition, although we have conducted the smoothness est above, it still being determined whether the findings are consistent across time and political and Declaration of Competing Interest The authors declare that they have no known competing financial interests or personal relationships that could have appeared to {nuence the work reported in this paper, Data availability ‘The authors donot have permission to share data References Chia, tps 200 tp of ng ad domes esment nck mrt olay: empial eviec om nda, Cogent ea. Plane, a ee ‘cory Os lee, & 20), Metron vests nd tck mare actin. vale a SSN 304447.Me zhao and. 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