Knowledge that Transforms

I propose a mechanism through which institutional investors’ correlated demand shocks provide a source of market risk in asset pricing. Institutional investors have mandates to beat a similar market index. During periods of strong stock market performance, their incentive to outperform intensifies as more of them fall short of the market index. This incentive induces procyclical risk-taking behavior, generating correlated demand that elevates the market betas and risk premia of exposed stocks. Quasi-experiments using exogenous changes in index membership support a causal interpretation of the mechanism. Elevated betas are associated with a higher perceived cost of capital and reduced firm investment.

I study how an activist shareholder organizes a cost-sharing coalition with active shareholders while seeking support from passive shareholders outside the coalition. A larger coalition shifts more of the campaign cost to members, allowing the activist to pursue lower-value proposals. Observing a larger coalition therefore lowers passive shareholders’ posterior expectation of proposal value. The activist chooses the largest coalition that preserves support from pivotal passive shareholders, endogenizing coalition size. Consequently, coalition size need not be a monotone measure of activist influence, and activism frequency depends on passive shareholders’ preferences. Coalition building strengthens the proxy-fight threat and can increase prevote settlements.