New Developments in Long-Term Asset Management
Monika Piazzesi and Luis Viceira, Organizers
Second Annual Conference
New York, New York
May 19-20, 2017
Institutional Investors and Information Acquisition:
The importance of institutional investors in financial markets has grown steadily in recent decades. Institutional investors now hold a majority of U.S. equity and account for a majority of the transactions and trading volume. Relative performance concerns play a key role in the decisions of these investors, who are in the business of acquiring information and using that information for portfolio management. This paper attempts to demonstrate how the growth of assets under management by benchmarked institutions affects informational efficiency and asset prices in equilibrium.
Other Conference Papers
The Relevance of Broker Networks for Information Diffusion in the Stock Market, Marco Di Maggio, Francesco A. Franzoni, Amir Kermani, and Carlo Sommavilla
Matthijs Breugem of the Frankfurt School of Finance and Management and Adrian Buss of INSEAD develop an equilibrium model with multiple risky assets to learn about. The model has two key features. First, a fraction of the institutional investors — the benchmarked investors — care not only about their own performance, but also about their performance relative to an index. This might be due to explicit reasons, for example, performance fees or a fund's "style," or implicit incentives, for instance, through the performance-flow relation. Second, the model allows for joint determination of the institutional investors' portfolio allocation and information choice, that is, investors optimally decide how much information to acquire.
The researchers highlight a novel economic channel through which benchmarking affects the portfolio allocation and information choice of institutional investors: Relative performance concerns lead to an increase in the effective, relative risk-aversion of a benchmarked institutional investor. In general, the optimal portfolio of a benchmarked institutional investor can be decomposed into three components: the optimal portfolio of a non-benchmarked investor; an information-insensitive hedging portfolio that implies a positive hedging demand for "index stocks" that are included in the benchmark portfolio; and a component capturing the change in the investor's risk attitude resulting from relative performance concerns.
Less informative prices make investments into the stocks riskier because there is more uncertainty about their fundamentals, so that risk-averse investors reduce the price they are prepared to offer for shares. Thus, as benchmarked investors gain importance, the price of the non-index stocks declines. Due to the positive hedging demand for index stocks, their prices will always be higher than those of comparable non-index stocks, but might still decline in the size of the benchmarked institutions.