Hostname: page-component-586b7cd67f-rcrh6 Total loading time: 0 Render date: 2024-11-23T22:56:08.212Z Has data issue: false hasContentIssue false
  • English
  • Français

Why Do Mutual Funds Hold Lottery Stocks?

Published online by Cambridge University Press:  08 April 2021

Vikas Agarwal Open the ORCID record for Vikas Agarwal [Opens in a new window] ,
Lei Jiang  and
Quan Wen
Vikas Agarwal
Affiliation:
Georgia State University Robinson College of [email protected]
Lei Jiang*
Affiliation:
Tsinghua University School of Economics and Management
Quan Wen
Affiliation:
Georgetown University McDonough School of [email protected]
*
[email protected] (corresponding author)
Get access Rights & Permissions [Opens in a new window]

Abstract

We provide evidence regarding mutual funds’ motivation to hold lottery stocks. Funds with higher managerial ownership invest less in lottery stocks, suggesting that managers themselves do not prefer such stocks. The evidence instead supports that managers cater to fund investors’ preference for such stocks. In particular, funds with more lottery holdings attract larger flows after portfolio disclosure compared with their peers, and poorly performing funds tend to engage in risk shifting by increasing their lottery holdings toward year-ends. Funds’ aggregate holdings of lottery stocks contribute to their overpricing.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 57 , Issue 3 , May 2022 , pp. 825 - 856
Copyright
© The Author(s), 2021. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

Footnotes

We thank Hendrik Bessembinder (the editor) and Roger Edelen (the referee) for their insightful and constructive feedback. We thank Rishabh Khurana and Chenglu Zhang for their excellent research assistance. We thank Turan Bali, Justin Birru, Chuck Buker, Sandeep Dahiya, Rui Dai, Kent Daniel, Freda Song Drechsler, Wayne Ferson, Vyacheslav (Slava) Fos, Egemen Genc, Bing Han, Ron Kaniel, Donald Keim, Clark Liu, Pedro Matos, David Mclean, Scott Murray, Sugata Ray, Honglin Ren, Matthew Ringgenberg, Clemens Sialm, and Xuemin Yan for their helpful comments and constructive suggestions. We also benefited from the comments received at presentations at the Baruch College, Baylor University, the Central University of Finance and Economics, Erasmus University, Georgia State University, Georgetown University, Renmin University, the Indian School of Business, the Indira Gandhi Institute of Development Research, the Tsinghua Finance Workshop, the University of California at Riverside, the University of Houston, the University of North Carolina at Charlotte, the University of Virginia (Darden), and the WRDS Advanced Research Scholar Program in the Wharton School at the University of Pennsylvania. Jiang gratefully acknowledges financial support from Tsinghua University Initiative Scientific Research Program, the National Science Foundation of China (71572091), and Tsinghua National Laboratory for Information Science and Technology. Agarwal would also like to thank the Centre for Financial Research (CFR) in Cologne for its continued support. We thank Linlin Ma and Yuehua Tang for sharing the managerial ownership data.

References

Agarwal, V.; Gay, G. D.; and Ling, L.. “Window Dressing in Mutual Funds.” Review of Financial Studies, 27 (2014), 3133–3170.CrossRefGoogle Scholar
Agarwal, V.; Vashishtha, R.; and Venkatachalam, M.. “Mutual Fund Transparency and Corporate Myopia.” Review of Financial Studies, 31 (2018), 1966–2003.CrossRefGoogle Scholar
Akbas, F.; Armstrong, W. J.; Sorescu, S.; and Subrahmanyam, A.. “Smart Money, Dumb Money, and Capital Market Anomalies.” Journal of Financial Economics, 118 (2015), 355–382.CrossRefGoogle Scholar
Akbas, F., and Genc, E.. “Do Mutual Fund Investors Overweight the Probability of Extreme Payoffs in the Return Distribution?” Journal of Financial and Quantitative Analysis, 55 (2020), 223–261.CrossRefGoogle Scholar
Ashraf, R.; Jayaraman, N.; and Ryan, H. E.. “Do Pension-Related Business Ties Influence Mutual Fund Proxy Voting? Evidence from Shareholder Proposals on Executive Compensation.” Journal of Financial and Quantitative Analysis, 47 (2012), 567–588.CrossRefGoogle Scholar
Bailey, W.; Kumar, A.; and Ng, D.. “Behavioral Biases of Mutual Fund Investors.” Journal of Financial Economics, 102 (2011), 1–27.CrossRefGoogle Scholar
Baker, M.; Litov, L.; Wachter, J. A.; and Wurgler, J.. “Can Mutual Fund Managers Pick Stocks? Evidence from Their Trades Prior to Earnings Announcements.” Journal of Financial and Quantitative Analysis, 45 (2010), 1111–1131.CrossRefGoogle Scholar
Bali, T. G.; Brown, S.; Murray, S.; and Tang, Y.. “A Lottery Demand-Based Explanation of the Beta Anomaly.” Journal of Financial and Quantitative Analysis, 52 (2017), 2369–2397.CrossRefGoogle Scholar
Bali, T. G.; Cakici, N.; and Whitelaw, R. F.. “Maxing Out: Stocks as Lotteries and the Cross-Section of Expected Returns.” Journal of Financial Economics, 99 (2011), 427–446.CrossRefGoogle Scholar
Bali, T. G.; Hirshleifer, D.; Peng, L.; and Tang, Y.. “Attention, Social Interaction, and Investor Attraction to Lottery Stocks.” Working Paper, available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3343769 (2019).CrossRefGoogle Scholar
Barber, B.; Huang, X.; and Odean, T.. “Which Factors Matter to Investors? Evidence from Mutual Fund Flows.” Review of Financial Studies, 29 (2016), 2600–2642.CrossRefGoogle Scholar
Barberis, N., and Huang, M.. “Stocks as Lotteries: The Implications of Probability Weighting for Security Prices.” American Economic Review, 98 (2008), 2066–2100.CrossRefGoogle Scholar
Bennett, J. A.; Sias, R. W.; and Starks, L. T.. “Greener Pastures and the Impact of Dynamic Institutional Preferences.” Review of Financial Studies, 16 (2003), 1203–1238.CrossRefGoogle Scholar
Berk, J., and van Binsbergen, J.. “Assessing Asset Pricing Models using Revealed Preference.” Journal of Financial Economics, 119 (2016), 1–23.CrossRefGoogle Scholar
Bhattacharya, U.; Lee, J. H.; and Pool, V. K.. “Conflicting Family Values in Mutual Fund Families.” Journal of Finance, 68 (2013), 173–200.CrossRefGoogle Scholar
Brown, K.; Harlow, W.; and Starks, L.. “Of Tournaments and Temptations: An Analysis of Managerial Incentives in the Mutual Fund Industry.” Journal of Finance, 51 (1996), 85–110.CrossRefGoogle Scholar
Brown, S.; Lu, Y.; Ray, S.; and Teo, M.. “Sensation-Seeking Hedge Funds.” Journal of Finance, 73 (2018), 2871–2914.CrossRefGoogle Scholar
Carhart, M. M. “On Persistence in Mutual Fund Performance.” Journal of Finance, 52 (1997), 57–82.CrossRefGoogle Scholar
Chalmers, J., and Reuter, J.. “What is the Impact of Financial Advisors on Retirement Portfolio Choices and Outcomes?” Working Paper, available at https://www.nber.org/sites/default/files/2020-08/orrc10-05.pdf (2012).CrossRefGoogle Scholar
Chen, H.; Jegadeesh, N.; and Wermers, R.. “The Value of Active Mutual Fund Management: An Examination of the Stockholdings and Trades of Fund Managers.” Journal of Financial and Quantitative Analysis, 35 (2000), 343–368.CrossRefGoogle Scholar
Chen, J.; Hong, H.; and Stein, J.. “Breadth of Ownership and Stock Returns.” Journal of Financial Economics, 66 (2002), 171–205.CrossRefGoogle Scholar
Chen, L. W., and Chen, F.. “Does Concurrent Management of Mutual and Hedge Funds Create Conflicts of Interest?” Journal of Banking and Finance, 33 (2009), 1423–1433.CrossRefGoogle Scholar
Chevalier, J., and Ellison, G.. “Risk Taking by Mutual Funds as a Response to Incentives.” Journal of Political Economy, 105 (1997), 1167–1200.CrossRefGoogle Scholar
Cici, G.; Gibson, S.; and Moussawi, R.. “Mutual Fund Performance When Parent Firms Simultaneously Manage Hedge Funds.” Journal of Financial Intermediation, 19 (2010), 169–187.CrossRefGoogle Scholar
Cohen, L., and Schmidt, B.. “Attracting Flows by Attracting Big Clients.” Journal of Finance, 64 (2009), 1225–1252.CrossRefGoogle Scholar
Cohen, R. B.; Coval, J.; and Pastor, L.. “Judging Fund Managers by the Company They Keep.” Journal of Finance, 60 (2005), 1057–1094.CrossRefGoogle Scholar
Conrad, J.; Kapadia, N.; and Xing, Y.. “Death and Jackpot: Why Do Individual Investors Hold Overpriced Stocks?” Journal of Financial Economics, 113 (2014), 455–475.CrossRefGoogle Scholar
Coval, J. D., and Stafford, E.. “Asset Fire Sales (and Purchases) in Equity Markets.” Journal of Financial Economics, 86 (2007), 479–512.CrossRefGoogle Scholar
Cremers, M., and Petajisto, A.. “How Active Is Your Fund Manager? A New Measure That Predicts Performance.” Review of Financial Studies, 22 (2009), 3329–3365.CrossRefGoogle Scholar
Daniel, K., and Titman, S.. “Evidence on the Characteristics of Cross Section Variation in Stock Returns.” Journal of Finance, 52 (1997), 1–33.CrossRefGoogle Scholar
Davis, G. F., and Kim, E. H.. “Business Ties and Proxy Voting by Mutual Funds.” Journal of Financial Economics, 85 (2007), 552–570.CrossRefGoogle Scholar
Del Guercio, D., and Reuter, J.. “Mutual Fund Performance and the Incentive to Generate Alpha.” Journal of Finance, 69 (2013), 1673–1704.CrossRefGoogle Scholar
Doran, J.; Jiang, D.; and Peterson, D.. “Gambling Preference and the New Year Effect of Assets with Lottery Features.” Review of Finance, 16 (2012), 685–731.CrossRefGoogle Scholar
Edelen, R. M.; Ince, O. S.; and Kadlec, G. B.. “Institutional Investors and Stock Return Anomalies.” Journal of Financial Economics, 119 (2016), 472–488.CrossRefGoogle Scholar
Evans, R. B. “Mutual Fund Incubation.” Journal of Finance, 65 (2010), 1581–1611.CrossRefGoogle Scholar
Evans, R. B., and Fahlenbrach, R.. “Institutional Investors and Mutual Fund Governance: Evidence from Retail-Institutional Fund Twins.” Review of Financial Studies, 25 (2012), 3530–3571.CrossRefGoogle Scholar
Fama, E. F., and French, K. R.. “Common Risk Factors in the Returns on Stocks and Bonds.” Journal of Financial Economics, 33 (1993), 3–56.CrossRefGoogle Scholar
Fama, E. F., and French, K. R.. “A Five-Factor Asset Pricing Model.” Journal of Financial Economics, 116 (2015), 1–22.CrossRefGoogle Scholar
Fama, E. F., and MacBeth, J. D.. “Risk and Return: Some Empirical Tests.” Journal of Political Economy, 81 (1973), 607–636.CrossRefGoogle Scholar
Fang, L. H.; Peress, J.; and Zheng, L.. “Does Media Coverage of Stocks Affect Mutual Funds Trading and Performance?” Review of Financial Studies, 27 (2014), 3441–3466.CrossRefGoogle Scholar
Frazzini, A., and Lamont, O. A.. “Dumb Money: Mutual Fund Flows and the Cross-Section of Stock Return.” Journal of Financial Economics, 88 (2008), 299–322.CrossRefGoogle Scholar
Gaspar, J. M.; Massa, M.; and Matos, P.. “Favoritism in Mutual Fund Families? Evidence on Strategic Cross-Fund Subsidization.” Journal of Finance, 61 (2006), 73–104.CrossRefGoogle Scholar
Goldie, B. A.; Henry, T. R.; and Kassa, H.. “Does MAX Matter for Mutual Funds?” European Financial Management, 25 (2019), 777–806.CrossRefGoogle Scholar
Gompers, P. A., and Metrick, A.. “Institutional Investors and Equity Prices.” Quarterly Journal of Economics, 116 (2001), 229–259.CrossRefGoogle Scholar
Greene, J. T., and Hodges, C. W.. “The Dilution Impact of Daily Fund Flows on Open-End Mutual Funds.” Journal of Financial Economics, 65 (2002), 131–158.CrossRefGoogle Scholar
Grinblatt, M., and Titman, S.. “Mutual Fund Performance: An Analysis of Quarterly Portfolio Holdings.” Journal of Business, 62 (1989), 393–416.CrossRefGoogle Scholar
Grinblatt, M., and Titman, S.. “Performance Measurement without Benchmarks: An Examination of Mutual Fund Returns.” Journal of Business, 66 (1993), 47–68.CrossRefGoogle Scholar
Grinblatt, M.; Titman, S.; and Wermers, R.. “Momentum Investment Strategies, Portfolio Performance, and Herding: A Study of Mutual Fund Behavior.” American Economic Review, 85 (1995), 1088–1105.Google Scholar
Han, B., and Kumar, A.. “Speculative Retail Trading and Asset Prices.” Journal of Financial and Quantitative Analysis, 48 (2013), 377–404.CrossRefGoogle Scholar
Harris, L. E.; Hartzmark, S. M.; and Solomon, D. H.. “Juicing the Dividend Yield: Mutual Funds and the Demand for Dividends.” Journal of Financial Economics, 116 (2015), 433–451.CrossRefGoogle Scholar
He, J.; Ng, L.; and Wang, Q.. “Quarterly Trading Patterns of Financial Institutions.” Journal of Business, 77 (2004), 493–509.CrossRefGoogle Scholar
Hu, P.; Kale, J.; Pagani, M.; and Subramanian, A.. “Fund Flows, Performance, Managerial Career Concerns, and Risk-Taking.” Management Science, 57 (2011), 628–646.CrossRefGoogle Scholar
Huang, J.; Sialm, C.; and Zhang, H.. “Risk Shifting and Mutual Fund Performance.” Review of Financial Studies, 24 (2011), 2575–2616.CrossRefGoogle Scholar
Huang, J.; Wei, K.; and Yan, H.. “Participation Costs and the Sensitivity of Fund Flows to Past Performance.” Journal of Finance, 62 (2007), 1273–1311.CrossRefGoogle Scholar
Ippolito, R. A. “Consumer Reaction to Measures of Poor Quality: Evidence from the Mutual Fund Industry.” Journal of Law and Economics, 35 (1992), 45–70.CrossRefGoogle Scholar
Jegadeesh, N., and Titman, S.. “Returns to Buying Winners and Selling Losers: Implications for Stock Market Efficiency.” Journal of Finance, 48 (1993), 65–91.CrossRefGoogle Scholar
Jiang, G.; Yao, T.; and Yu, T.. “Do Mutual Funds Time the Market? Evidence from Portfolio Holdings.” Journal of Financial Economics, 86 (2007), 724–758.CrossRefGoogle Scholar
Jordan, B., and Riley, T.. “Volatility and Mutual Fund Manager Skill.” Journal of Financial Economics, 118 (2015), 289–298.CrossRefGoogle Scholar
Kacperczyk, M., and Seru, A.. “Fund Manager Use of Public Information: New Evidence on Managerial Skills.” Journal of Finance, 62 (2007), 485–528.CrossRefGoogle Scholar
Kacperczyk, M.; Sialm, C.; and Zheng, L.. “On the Industry Concentration of Actively Managed Equity Funds.” Journal of Finance, 60 (2005), 1983–2012.CrossRefGoogle Scholar
Kacperczyk, M.; Sialm, C.; and Zheng, L.. “Unobserved Actions of Mutual Funds.” Review of Financial Studies, 21 (2008), 2379–2416.CrossRefGoogle Scholar
Kaniel, R., and Parham, R.. “WSJ Category Kings – The Impact of Media Attention on Consumer and Mutual Fund Investment Decisions.” Journal of Financial Economics, 123 (2017), 337–356.CrossRefGoogle Scholar
Kempf, A.; Ruenzi, S.; and Thiele, T.. “Employment Risk, Compensation Incentives, and Managerial Risk Taking: Evidence from the Mutual Fund Industry.” Journal of Financial Economics, 92 (2009), 92–108.CrossRefGoogle Scholar
Kumar, A. “Who Gambles in the Stock Market?” Journal of Finance, 64 (2009), 1889–1933.CrossRefGoogle Scholar
Kumar, A.; Page, J. K.; and Spalt, O.. “Religious Beliefs, Gambling Attitudes, and Financial Market Outcomes.” Journal of Financial Economics, 102 (2011), 671–708.CrossRefGoogle Scholar
Lakonishok, J.; Shleifer, A.; Thaler, R.; and Vishny, R.. “Window Dressing by Pension Fund Managers.” American Economics Review, 81 (1991), 227–231.Google Scholar
Lehavy, R., and Sloan, R. G.. “Investor Recognition and Stock Returns.” Review of Accounting Studies, 13 (2008), 327–361.CrossRefGoogle Scholar
Ma, L., and Tang, Y.. “Portfolio Manager Ownership and Mutual Fund Risk Taking.” Management Science, 65 (2019), 5518–5534.Google Scholar
Newey, W. K., and West, K. D.. “A Simple, Positive Semi-Definite, Heteroskedasticity and Autocorrelation Consistent Covariance Matrix.” Econometrica, 55 (1987), 703–708.CrossRefGoogle Scholar
Ng, L., and Wang, Q.. “Institutional Trading and the Turn-of-the-Year Effect.” Journal of Financial Economics, 74 (2004), 343–366.CrossRefGoogle Scholar
Nofsinger, J. R., and Sias, R. W.. “Herding and Feedback Trading by Institutional and Individual Investors.” Journal of Finance, 54 (1999), 2263–2295.CrossRefGoogle Scholar
Parrino, R.; Sias, R.; and Starks, L.. “Voting with Their Feet: Changes in Institutional Ownership Around Forced CEO Turnover.” Journal of Financial Economics, 68 (2003), 3–46.CrossRefGoogle Scholar
Pastor, L., and Stambaugh, R. F.. “Liquidity Risk and Expected Stock Returns.” Journal of Political Economy, 111 (2003), 642–685.CrossRefGoogle Scholar
Rakowski, D. “Fund Flow Volatility and Performance.” Journal of Financial and Quantitative Analysis, 45 (2010), 223–237.CrossRefGoogle Scholar
Schwarz, C. G. “Mutual Fund Tournaments: The Sorting Bias and New Evidence.” Review of Financial Studies, 25 (2012), 913–936.CrossRefGoogle Scholar
Schwarz, C. G., and Potter, M. E.. “Revisiting Mutual Fund Portfolio Disclosure.” Review of Financial Studies, 29 (2016), 3519–3544.CrossRefGoogle Scholar
Sias, R. W.; Starks, L. T.; and Titman, S.. “Changes in Institutional Ownership and Stock Returns: Assessment and Methodology.” Journal of Business, 79 (2006), 2869–2910.CrossRefGoogle Scholar
Sirri, E. R., and Tufano, P.. “Costly Search and Mutual Fund Flows.” Journal of Finance, 53 (1998), 1589–1622.CrossRefGoogle Scholar
Solomon, D.; Soltes, E.; and Sosyura, D.. “Winners in the Spotlight: Media Coverage of Fund Holdings as a Driver of Flows.” Journal of Financial Economics, 113 (2014), 53–72.CrossRefGoogle Scholar
Wermers, R. “Mutual Fund Herding and the Impact on Stock Prices.” Journal of Finance, 54 (1999), 581–622.CrossRefGoogle Scholar
Wermers, R. “Mutual Fund Performance: An Empirical Decomposition into Stock-Picking Talent, Style, Transaction Costs, and Expenses.” Journal of Finance, 55 (2000), 1655–1695.CrossRefGoogle Scholar
Supplementary material: PDF

Agarwal et al. supplementary material

Agarwal et al. supplementary material

Download Agarwal et al. supplementary material(PDF)
PDF 1.1 MB