Mutual fund trading around mergers and fund performance

Purpose - The purpose of this paper is to investigate whether mutual funds (MFs) take positions in companies that subsequently engage in M&As and whether fund managers adjust portfolio holdings in the same direction as wealth creation from mergers. Further, the study is the first to examine the relation between active trading surrounding M&As and risk-adjusted performance in MFs. Design/methodology/approach - The sample includes mergers conducted by publicly traded acquirers of public and private targets over 2003–2016. Several measures of MF managerial activeness in M&As are introduced: merger trading intensity (proportional change in fund’s holdings of M&A stocks), active merger weight (deviation of the fund’s actual weights in M&A stocks and value weights) and active merger trading (deviation of the fund’s actual weights in M&A stocks from the average weights in M&A stocks across the funds within the same Center for Research in Security Prices objective). Findings - Fund managers who are more vested in the firms engaged in M&As and who are more active in their trades of M&A firms generate higher contemporaneous and subsequent risk-adjusted performance, indicative of managerial skill. Active M&A trading effect on performance is economically meaningful. Originality/value - This is the first study to examine whether previously documented predictive power of active institutions regarding M&As’ profitability leads to higher risk-adjusted returns for MF investors. The study introduces several measures to gauge how actively fund managers trade companies engaged in M&As and contributes to the literature on MF managers’ ability to pick stocks.