Using survey-based measures of mutual fund manager loss aversion, we study the effects of institutional investor preferences on their investment decisions, performance, and career outcomes. We find that managers with higher aversion to losses choose portfolios with lower downside risk, increase their risk-taking more in response to poor past performance, and display a stronger disposition effect. Further, we provide evidence that managers who are more loss-averse have lower performance and are more likely to have their contracts terminated.

We exploit the restrictions of intertemporal portfolio choice in the presence of nonfinancial income risk to test hedging using the information contained in the actual portfolio of the investor. We use a unique data set of Swedish investors with information broken down at the investor level and into various components of investor wealth, income, and demographic characteristics. Portfolio holdings are identified at the stock level. We show that investors do not hedge but invest in stocks closely related to their nonfinancial income. We explain this with familiarity, that is, the tendency to concentrate holdings in stocks to which the investor is geographically or professionally close or that he has held for a long period. We show that familiarity is not a behavioral bias, but is information driven. Familiarity-based investment allows investors to earn higher returns than they would have otherwise earned if they had hedged.

[We study holdings in merger and acquisition (M& A) targets by financial conglomerates in which affiliated investment banks advise the bidders. We show that advisors take positions in the targets before M& A announcements. These stakes are positively related to the probability of observing the bid and to the target premium. We argue that this can be explained in terms of advisors who are privy to important information about the deal, investing in the target in the expectation of its price increasing. We document the high profits of this strategy. The advisory stake is positively related to the likelihood of deal completion and to the termination fees. However, these deals are not wealth creating: there is a negative relation between the advisory stake and the viability of the deal.]

[We study the effects of the controlling shareholders' portfolio diversification on the initial public offering (IPO) process. Less diversified shareholders have more to gain from taking their firm public, and are more willing to accept a lower price for shares. We test these hypotheses using the data on all IPOs in Sweden between 1995 and 2001. Using detailed information on the portfolio composition of shareholders in private and public firms, we construct several proxies of their portfolio diversification and relate them to the probability of the IPO and the underpricing. We show that the less diversified individual shareholders, especially those with lower wealth, sell more of their shares at the IPO. Firms held by less diversified controlling shareholders are more likely to go public, and exhibit higher underpricing. These effects are economically and statistically significant, while the diversification of noncontrolling shareholders has no effect. Our findings suggest that diversification of controlling shareholders plays a prominent role in the IPO process.]

We provide direct evidence on the effect of financial expertise on investment outcomes by analyzing private portfolios of mutual fund managers. We find no evidence that financial experts make better investment decisions than peers: they do not outperform, do not diversify their risks better, and do not exhibit lower behavioral biases. Managers do much better in stocks for which they have an information advantage over other investors, i.e., stocks that are also held by their mutual funds. More experienced managers seem to be aware of the limitations to their investment skills as they increase their holdings of mutual fund-related stocks following poor performance of their portfolios. Our results suggest that there are limits to the value added by financial expertise.

We study whether mutual funds systematically manage the downside risk of their portfolios in ways that improve their performance. We find that actively managed mutual funds on average possess positive downside-risk-timing ability. Managers adjust funds’ downside risk exposure in response to macroeconomic information; however, downside-risk-timing skills remain strong even after controlling for macro variables. Funds more skilled in timing downside risk outperform those that are not by 14.3 bp per month (or 1.73% annualized) unconditionally and by 39.9 bp per month (or 4.89% annualized) during recessions; they also attract larger flows. Received September 11, 2016; editorial decision Januaruy 08, 2018 by Editor Wayne Ferson.

We study the link between college interaction and portfolio choice. We consider both the general imprinting of values shared by all the students attending the same school—values-based interaction—and the ensuing interaction with the classmates—bonding-based interaction. We show that even after controlling for the standard motivations of portfolio theory, college-based interaction affects the choice of styles—growth/value investing as well as stock picking. Both dimensions of interaction—values-based and bonding-based interactions—contribute to shape the investor choice. Overall, college interaction significantly affects portfolio choice. Investors invest in the same stocks in which their former classmates do. Each individual college leaves a specific and distinct trace on his students.

We investigate the way investors react to prior gains/losses. We directly examine investor reactions to different definitions of gains and losses (i.e., overall wealth, paper gains and losses, and realized capital gains and losses) and investigate how gains and losses in one category of wealth (e.g., real estate) affect holdings in other categories (e.g., financial assets). We show that investors change their holdings of risky assets as a function of both financial and real estate gains. Prior gains increase risk-taking, while prior losses reduce it. To interpret our results, we consider and compare three alternative hypotheses of investor behavior: prospect theory, house money effect and standard utility theory with decreasing risk aversion. Our evidence fails to support loss aversion, pointing in the direction of the house money effect or standard utility theory. Investors consider wealth in its entirety, and risk-taking in financial markets is affected by gains/losses in overall wealth, financial wealth, and real estate wealth.

Using survey-based measures of mutual fund manager loss aversion, we study the effects of institutional investor preferences on their investment decisions, performance, and career outcomes. We find that managers with higher aversion to losses choose portfolios with lower downside risk, increase their risk-taking more in response to poor past performance, and display a stronger disposition effect. Further, we provide evidence that managers who are more loss-averse have lower performance and are more likely to have their contracts terminated. Received December 3, 2014; editorial decision May 25, 2016 by Editor Andrew Karolyi.

We exploit the restrictions of intertemporal portfolio choice in the presence of nonfinancial income risk to test hedging using the information contained in the actual portfolio of the investor. We use a unique data set of Swedish investors with information broken down at the investor level and into various components of investor wealth, income, and demographic characteristics. Portfolio holdings are identified at the stock level. We show that investors do not hedge but invest in stocks closely related to their nonfinancial income. We explain this with familiarity, that is, the tendency to concentrate holdings in stocks to which the investor is geographically or professionally close or that he has held for a long period. We show that familiarity is not a behavioral bias, but is information driven. Familiarity-based investment allows investors to earn higher returns than they would have otherwise earned if they had hedged.