TY  - JOUR
AU  - Vayanos,Dimitri
AU  - Woolley,Paul
TI  - An Institutional Theory of Momentum and Reversal
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 14523
PY  - 2008
Y2  - December 2008
UR  - http://www.nber.org/papers/w14523
L1  - http://www.nber.org/papers/w14523.pdf
N1  - Author contact info:
Dimitri Vayanos
Department of Finance, OLD 3.41
London School of Economics
Houghton Street
London WC2A 2AE
UNITED KINGDOM
Tel: +44 (0)20 7955 6382
Fax: +44 (0)20 7955 7420
E-Mail: d.vayanos@lse.ac.uk

Paul Woolley
Financial Markets Group
London School of Economics
London WC2A 2AE
UNITED KINGDOM
E-Mail: p.k.woolley@lse.ac.uk
AB  - We propose a rational theory of momentum and reversal based on delegated portfolio management. An investor can hold assets through an index or an active fund. Investing in the active fund involves a time-varying cost, interpreted as managerial perk or ability. The investor responds to an increase in the cost by flowing out of the active and into the index fund. While prices of assets held by the active fund drop in anticipation of these outflows, the drop is expected to continue, leading to momentum. Because outflows push prices below fundamental values, expected returns eventually rise, leading to reversal. Besides momentum and reversal, fund flows generate comovement, lead-lag effects and amplification, with all effects being larger for assets with high idiosyncratic risk. The active-fund manager’s concern with commercial risk makes prices more volatile.
ER  -