The Overnight Drift

Abstract

This paper documents large positive returns to holding U.S. equity futures overnight during the opening hours of European markets. Consistent with models of inventory risk and demand for immediacy, we demonstrate a strong relationship with order imbalances arising at the close of trade from the previous U.S intraday session. Rationalizing unconditionally positive “overnight drift” returns, we uncover a strong asymmetric reaction to demand shocks: market sell-offs generate robust positive overnight reversals while reversals following market rallies are much more modest. We argue that this demand shock asymmetry is consistent with time-variation in dealer risk bearing capacity.

Keywords: overnight returns, immediacy, inventory risk, volatility risk

JEL Classification: G13, G14, G15