Agency costs,governance, and organizational forms: Evidence from the mutual fund industry

Using a comprehensive sample of mutual funds and fund families for the period 1992–2004, this study examines the impact of fund management companies’ organizational forms on the level of agency costs within mutual funds. We find that, all else being equal: (1) funds managed by public fund families charge higher fees than those managed by private fund families; (2) public fund families acquire more funds than private fund families; and (3) funds of public fund families significantly underperform funds of private fund families. Collectively, these findings suggest that agency costs are higher in mutual funds managed by public fund families. Our results are consistent with the idea that the agency conflict between the fund management company and fund shareholders is more acute for public management companies because of their shorter-term focus.     

AGENCY CONFLICTS IN DELEGATED PORTFOLIO MANAGEMENT: EVIDENCE FROM NAMESAKE MUTUAL FUNDS

Namesake funds provide a unique sample for studying the two agency conflicts that exist within a mutual fund. The first is between the fund management company and fund shareholders, and the second is between the fund management company and the fund manager. A typical namesake fund manager sits on his or her fund's board, frequently as the chairman, is the majority owner of the fund management company, and has significant investments in the fund he or she manages. Our results indicate that namesake funds charge higher fees, suggesting that the boards of namesake funds are less effective. We find that namesake funds are more tax efficient, consistent with the idea that managerial ownership helps align the interests of managers with those of shareholders. Because of fewer career concerns, namesake fund managers herd less while assuming greater unsystematic risk. We find weak evidence that namesake fund managers outperform their benchmarks and peers. Finally, we observe that namesake funds attract higher levels of investor cash flow.     

Is the long-run underperformance of seasoned equity issues irrational? Evidence from Spain

We investigate if the long-run underperformance in the year after the issue of a sample of Spanish SEO firms is related to behavioural biases that lead investors to slowly adjust their pre-issue overoptimism. We also examine the existence of arbitrage costs that preclude mispricing from being corrected rapidly by sophisticated investors who act as arbitrageurs. Our findings support the contention that small SEO firms are overpriced at the time of the issue and suggest that their post-underperformance is related to arbitrage costs, where transaction costs play an important role although holding costs do not.     

Tax Calendar Effects in the Municipal Bond Market: Tax‐Loss Selling and Cherry Picking by Investors and Market Timing by Fund Managers

Examining municipal bond returns, bond fund flows and buying activities by fund managers over the period 1990–2009, we find evidence of tax calendar‐related rational opportunistic trading patterns by fund investors and fund managers. Specifically, fund shareholders conduct tax‐loss selling in December and re‐invest in January. In April, June, and September, fund investors rationally cherry pick to sell their shares of short‐term bond funds instead of their shares of long‐term bond funds to raise cash to pay estimated taxes. Unlike fund shareholders, fund managers adopt a contrarian strategy of buying in December and selling in January.     

Dominant institutional owners and firm value

This research analyzes the impact of control by dominant institutional owners (banking institutions and investment funds) on firm value. The analysis considers the level of voting rights in the hands of the dominant institutional owner and other large shareholders. The results reveal a different effect on value depending on whether the dominant institutional investor is a banking institution or an investment fund. Moreover, the results show that the presence of other large shareholders affects firm value when a dominant institutional owner controls the firm.     

Predictable Investment Horizons and Wealth Transfers among Mutual Fund Shareholders

This study analyzes the distribution of investment horizons in a large, proprietary panel of all shareholders in one no‐load mutual fund family. A proportional hazards model shows that there are observable shareholder characteristics that enable the fund to predict reliably on the day each account is opened whether the account will be short term or long term. Simulations show that the liquidity costs imposed on the fund by the expected short‐term shareholders are significantly greater than those imposed by the expected long‐term shareholders. Combining these results, the analysis argues that mutual funds do not provide equitable liquidity‐risk insurance.     

Board structure,mergers, and shareholder wealth: A study of the mutual fund industry

We study mutual fund mergers between 1999 and 2001 to understand the role and effectiveness of fund boards. Some fund mergers—typically across-family mergers—benefit target shareholders but are costly to target fund directors. Such mergers are more likely when funds underperform and their boards have a larger percentage of independent trustees, suggesting that more-independent boards tolerate less underperformance before initiating across-family mergers. This effect is most pronounced when all of the fund's directors are independent, not the 75% level of independence required by the SEC. Higher-paid target fund boards are less likely to approve across-family mergers that cause substantial reductions in their compensation.     

MUTUAL FUND TRADES: ASYMMETRIC LIQUIDITY PREFERENCES AND FUND PERFORMANCE

We investigate the role of the liquidity of stocks traded by mutual funds on the performance of funds experiencing substantial and sustained redemptions (outflows) or inflows. Accordingly, we identify 770 redeeming fund‐periods and 1,757 inflow fund‐periods and find a statistically significant relation between the liquidity of the stocks they trade and the quantity of the stock traded. Notably, when funds experience redemptions, those with low portfolio liquidity have an elevated preference for selling more‐liquid stocks. In the following period, such funds statistically and economically underperform funds that sell less‐liquid stocks. This is consistent with redemptions detrimentally affecting shareholders that remain in a fund.     

Cross-ownership,returns, and voting in mergers

We show that institutional shareholders of acquiring companies on average do not lose money around public merger announcements, because they hold substantial stakes in the targets and make up for the losses from the acquirers with the gains from the targets. Depending on their holdings in the target, acquirer shareholders generally realize different returns from the same merger, some losing money and others gaining. This conflict of interest is reflected in the mutual fund voting behavior: In mergers with negative acquirer announcement returns, cross-owners are significantly more likely to vote for the merger.     

The Impact of Corporate Governance on Closed‐end Funds

This study uses a large sample of UK‐listed closed‐end funds to examine whether governance has an impact on two indicators of fund performance: the level of fund‐management fees and the discount at which a fund trades. Fees are under the control of the directors, and we find that they are inversely related to fund returns, even after allowing for differences across investment sectors. Fees are, on average, higher if a fund has a large board, few directors from outside the fund‐family, many directors from within the fund‐family, and low ownership by the management company. Discounts for funds are wider if the management company or any blockholder has a significant long‐term stake, suggesting that investors are wary of entrenched management. The results suggest that boards are frequently compromised in their duty to shareholders by their dependence on fund‐management companies.     

Stock price fragility

We study the relation between the ownership structure of financial assets and non-fundamental risk. We define an asset to be fragile if it is susceptible to non-fundamental shifts in demand. An asset can be fragile because of concentrated ownership, or because its owners face correlated or volatile liquidity shocks, i.e., they must buy or sell at the same time. We formalize this idea and apply it to mutual fund ownership of US stocks. Consistent with our predictions, fragility strongly predicts price volatility. We then extend the logic of fragility to investigate two natural extensions: (1) the forecast of stock return comovement and (2) the potentially destabilizing impact of arbitrageurs on stock prices.     

Taxes,tenders and the design of Australian off‐market share repurchases

In designing off‐market (self‐tender offer) share repurchases, Australian companies must consider the resulting potential tax benefits for different investor groups with consequent effects upon the supply of stock tendered by holders and the ultimate tender outcome. We develop and estimate a model of the stock supply curve that demonstrates less than perfect elasticity and incomplete tax arbitrage arising from ‘participation risk’ for potential arbitrageurs. We are able to estimate the extent of disequilibrium in prices involved in fixed‐price repurchases and show that it is substantial. We show that Australian Tax Office restrictions on the tender price range for Dutch auctions have meant that non‐participating shareholders have foregone some potential benefits through the transfer of tax benefits to (primarily institutional, low tax rate) successful tender participants. The results provide support for legislative changes proposed in 2009 (but not implemented as of mid 2011), which removed constraints on the allowable range of repurchase prices.     

Asset sales in the mutual fund industry: Who gains?

We analyze gains from intercorporate sales of mutual fund subsidiaries, using mandated SEC disclosures to assess the performance of mutual funds transferred by these transactions. Sellers are financial conglomerates (banks) using equity-based deals to transfer poorly performing funds to highly focused asset management companies. The transferred funds experience significant improvements in risk-adjusted returns, efficiency, and asset growth. These improvements are closely correlated with the gains in wealth to buyers and sellers at deal announcements, indicating the market efficiently capitalizes expected performance improvements. Our results provide evidence that these transactions transfer assets to acquirers better able to manage them, generating gains for fund holders and buyer and seller shareholders.     

Debt contract strictness and auditor specialization

The conflicts of interest among managers, shareholders and creditors resulting in agency costs, can be mitigated by restricting managers’ adverse behavior, through financial covenants to better align the various stakeholder interests. Thus, debt contract strictness represents an important aspect of agency costs between creditors, shareholders, and management that is not always captured by interest rates. The contract setting provides a unique opportunity to investigate how creditors may rely on auditors to alleviate information uncertainty stemming from reliance on management's financial reporting and thus alleviate the creditor's potential loss of invested capital. After controlling for borrower risks, loan characteristics, and audit factors, we show that auditor industry specialization is significantly associated with a reduction in the strictness of debt contracts, consistent with creditors viewing certain industry expert auditors as effective monitors against financial reporting manipulation aimed at the avoidance of debt covenant triggers that protect creditors against potential loss. Further, we find that the association between loan strictness and auditor specialization is attenuated by stronger corporate governance systems, external monitors, and prior lender relationships.     

The flow-performance relationship around the world

We use a new dataset to study how mutual fund flows depend on past performance across 28 countries. We show that there are marked differences in the flow-performance relationship across countries, suggesting that US findings concerning its shape do not apply universally. We find that mutual fund investors sell losers more and buy winners less in more developed countries. This is because investors in more developed countries are more sophisticated and face lower costs of participating in the mutual fund industry. Higher country-level convexity is positively associated with higher levels of risk taking by fund managers.     

Risk and return in convertible arbitrage: Evidence from the convertible bond market

In this paper, we identify and document the empirical characteristics of the key drivers of convertible arbitrage as a strategy and how they impact the performance of convertible arbitrage hedge funds. We show that the returns of a buy-and-hedge strategy involving taking a long position in convertible bonds (“CBs”) while hedging the equity risk alone explains a substantial amount of these funds' return dynamics. In addition, we highlight the importance of non-price variables such as extreme market-wide events and the supply of CBs on performance. Out-of-sample tests provide corroborative evidence on our model's predictions. At a more micro level, larger funds appear to be less dependent on directional exposure to CBs and more active in shorting stocks to hedge their exposure than smaller funds. They are also more vulnerable to supply shocks in the CB market. These findings are consistent with economies of scale that large funds enjoy in accessing the stock loan market. However, the friction involved in adjusting the stock of risk capital managed by a large fund can negatively impact performance when the supply of CBs declines. Taken together, our findings are consistent with convertible arbitrageurs collectively being rewarded for playing an intermediation role of funding CB issuers whilst distributing part of the equity risk of CBs to the equity market.     

Do investors trade uniformly through time?

This study tests whether investors trade uniformly through time by analyzing the quarter-by-quarter trading decision of individual shareholders in one no-load mutual fund family over nearly six years. These shareholders' trading probabilities change dramatically through time. Time has a larger economic effect on the shareholders' trading decisions than data commonly used in prior research, including fund performance. This effect is larger among shareholders who have more prior transactions, and it is robust to controls for unobserved heterogeneity.     

An Analysis of the Determinants and Shareholder Wealth Effects of Mutual Fund Mergers

This study examines the determinants of mutual fund mergers and their subsequent wealth impact on shareholders of target and acquiring funds. Results indicate significant improvements in postmerger performance and a reduction in expense ratios for target fund shareholders. In contrast, acquiring fund shareholders experience a significant deterioration in postmerger performance. The net asset flows continue to remain negative for the combined fund in the year following the merger. The likelihood of a fund merger is inversely related to fund size for both within- and across-family mutual fund mergers. However, poor past performance is a significant determinant for only within-family mergers.     

A law and finance theory of strategic blocking and preemptive bidding in takeovers

This paper uses a law and finance approach to develop a new takeover theory that formalizes the idea that large target shareholders, who can block a takeover attempt, exercise a strategic influence on tender offer prices, and thereby, on the distribution of the takeover gain. The theory captures the interaction between legal rules, target ownership structure, bidder toehold and potential effects of arbitrageurs in an endogenously determined bargaining parameter that predicts a skewed distribution of the gain in favor of target shareholders. In a regression model, the parameter has significant explanatory power, specifically when the total takeover gain is positive.     

Index arbitrage and the pricing relationship between Australian stock index futures and their underlying shares

This paper examines the mispricing of Australian stock index futures. Exogenous and endogenous price volatility is confirmed to have a positive impact on the mispricing spread, after filtering out predictable time series components. More accurate pricing associated with surprise trading volume in the underlying stocks is consistent with arbitrageurs acting to narrow price disparities relative to the futures market. Ex‐ante interest rate volatility is the primary source of risk faced by arbitrageurs and fluctuations in the transaction cost of opening index arbitrage positions influence the extent to which they drive prices towards theoretical fair values.