The retreat of arbitrage capital: Attention level and nonlinear order flow dynamics

This paper develops a microstructure-based framework in which institutional contrarian liquidity provision becomes less elastic once retail attention exceeds market absorption capacity. Using data on Chinese A-share stocks, we find that high-SVI stocks earn significantly lower cumulative excess returns over horizons from one to twelve months, even after controlling for firm characteristics, public information, trading conditions, institutional ownership, and fundamentals. The order-flow evidence links this return pattern to the state-dependence of institutional contrarian absorption. Retail-related buying pressure increases with SVI, while institutionally related contrarian selling initially strengthens but ceases to expand and retreats as attention moves into the upper tail. Complementary event-study and margin-trading/short-selling eligibility evidence is consistent with this state-dependent weakening of arbitrage capacity.