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Avoiding Idiosyncratic Volatility: Flow Sensitivity to Individual Stock Returns

Author

Listed:
  • Marco Di Maggio

    (Harvard Business School; NBER)

  • Francesco A. Franzoni

    (Universita della Svizzera italiana; Swiss Finance Institute; CEPR)

  • Shimon Kogan

    (Reichman University; University of Pennsylvania)

  • Ran Xing

    (Stockholm University; Aarhus University; Swedish House of Finance)

Abstract

Despite positive and significant earnings announcement premia, we find that institutional investors reduce their exposure to stocks before earnings announcements. A novel result on the sensitivity of flows to individual stock returns provides a potential explanation. We show that extreme announcement returns for an individual holding lead to substantial outflows, controlling for overall performance, and they increase the probability of managers leaving the fund. Reducing the exposure to these stocks before the announcement mitigates the outflows. We build a model to describe and quantify this tradeoff. Overall, the paper identifies a new dimension of limits to arbitrage for institutions.

Suggested Citation

  • Marco Di Maggio & Francesco A. Franzoni & Shimon Kogan & Ran Xing, 2023. "Avoiding Idiosyncratic Volatility: Flow Sensitivity to Individual Stock Returns," Swiss Finance Institute Research Paper Series 23-108, Swiss Finance Institute.
    • Handle: RePEc:chf:rpseri:rp23108
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    File URL: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3786363
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    More about this item

    Keywords

    News trading; mutual fund performance; fund flows; limits of arbitrage; financial constraints; earnings announcements;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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