Abstract

As institutional investors play a significant role in improving corporate governance and stabilizing the stock market in China, we test whether and how institutional ownership affects insider trading profitability in China. Our empirical findings show that institutional ownership reduces the profitability of total insider trading and insider sales but increases the profitability of insider purchases, which is consistent with the difference between Chinese regulators' attitudes toward insider sales and their attitude toward purchases. Our findings are robust to the inclusion of firm fixed effects, alternative proxies and the consideration of self-selection bias and endogeneity problems. The mediation analyses indicate that institutional investors reduce the agency costs associated with insider trading mainly through their direct rather than indirect monitoring activities. Moreover, we find that the effect of institutional ownership on insider trading is most prevalent in firms that are non-state-owned enterprises and that have high insider ownership, which validates the governance role of institutional investors. Furthermore, we find that insider trading profitability is significantly affected by firms' ownership by pressure-resistant institutional investors, but not by firms' ownership by pressure-sensitive institutional investors.

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