Rumors and Pre-Announcement Trading : Why Sell Target Stocks Before Acquisition Announcements?

We track trading activity in the days preceding acquisition announcements for target firms, and find that abnormally high trading volume precedes significant price movement. Using additional intraday data, we find increased active-selling in target stocks before acquisition announcements that offsets increased active-buying. This is unexpected because sellers often lose money when an acquisition is announced. After ruling out alternative explanations, we find evidence that sellers are rational investors who trade on the market's overreaction to takeover rumors. While sellers lose money when a rumor precedes an actual announcement, in most cases rumors fail to materialize into public announcements. We provide evidence that the significant pre-announcement volume we document reflects the market's processing of highly uncertain information in takeover rumors