TY - JOUR AU - Manconi, Alberto AU - Massa, Massimo AU - Yasuda, Ayako TI - The Behavior of Intoxicated Investors: The role of institutional investors in propagating the crisis of 2007-2008 JF - National Bureau of Economic Research Working Paper Series VL - No. 16191 PY - 2010 Y2 - July 2010 DO - 10.3386/w16191 UR - http://www.nber.org/papers/w16191 L1 - http://www.nber.org/papers/w16191.pdf N1 - Author contact info: Alberto Manconi Bocconi University via Roentgen 1 20136 Milan Italy E-Mail: alberto.manconi@unibocconi.it Massimo Massa INSEAD Department of Finance 1 Ayer Rajah Avenue, 138676 Singapore E-Mail: massimo.massa@insead.edu Ayako Yasuda Graduate School of Management UC Davis 3206 Gallagher Hall One Shields Ave. Davis, CA 95616-8609 Tel: 530-752-0775 Fax: 530-752-2924 E-Mail: asyasuda@ucdavis.edu M1 - published as Alberto Manconi, Massimo Massa, Ayako Yasuda. "The Behavior of Intoxicated Investors: The Role of Institutional Investors in Propagating the Crisis of 2007-2008," in Mark Carey, Anil Kashyap, Raghuram Rajan, and René Stulz, organizers, "Market Institutions and Financial Market Risk" Elsevier, Journal of Financial Economics (2012) M3 - presented at "Market Institutions and Financial Market Risk", June 17-18, 2010 AB - Using a novel data of institutional investors' bond holdings, we examine a transmission of the crisis of 2007-2008 from the securitized bond market to the corporate bond market via joint ownership of these bonds by investors. We posit that, ceteris paribus, corporate bonds held by investors with high exposure to securitized bonds and liquidity needs experience greater selling pressure and price declines (yield increases) at the onset of the crisis. We further test predictions of a model of dynamic asset liquidation: Investors with large enough future liquidity shocks retain liquid assets, and instead sell assets that have relatively high temporary price impacts of trading. Mutual funds with higher sensitivity of pay to performance held higher portions of their portfolios in securitized bonds prior to the crisis. After the onset of the crisis, these funds did not sell securitized bonds on average and instead sold corporate bonds to meet their liquidity needs. Sales rose and yield spreads widened more for those corporate bonds whose mutual fund holders' portfolios were more heavily exposed to securitized bonds, compared to same-issuer bonds held by unexposed funds. Shorter-horizon mutual funds liquidated greater portions of their corporate bond holdings and in particular lower-rated bonds. In contrast, insurance companies sold little regardless of their exposure as long as they were above the minimum capital ratio threshold. These findings suggest that short-horizon mutual funds with high exposure to securitized bonds played a role in transmitting the crisis from securitized bonds to corporate bonds. ER -