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Just Protecting Their Investing/Trading Reputations?

| | Posted in: Mutual/Hedge Funds

People worry about their professional reputations. Does this worry on the part of institutional fund managers translate into any systematic investing/trading practices, and thereby create asset mispricings? In the November 2005 update of their paper entitled “Asset Price Dynamics When Traders Care About Reputation”, Amil Dasgupta and Andrea Prat describe a model for incorporating concern about reputation into institutional (mutual) fund manager behavior and compare predictions of that model to results of other research. They conclude that:

  • For fund managers, assets have reputational (career) values in addition to fundamental financial values. When a contrarian position has a reputational cost, fund managers tend to conform (to herd) rather than take risk, ignoring any edge they have from private information.
  • Reputational concerns can therefore produce systematic asset mispricings. Assets that fund managers have persistently bought (sold) are likely to have negative (positive) corrections when associated uncertainties are resolved, producing low (high) long-term returns.
  • Other research on institutional holdings over the period 1983-2004 confirms that a strategy of buying stocks that institutions sell for five or more consecutive quarters and shorting ones they buy yields excess returns of 5% to 11% per year.

In summary, reputational concerns of institutional fund managers may create mispricing opportunities for other investors.

Do individual investors/traders have reputational concerns with respect to family, friends, self? Could such concerns affect willingness to assume risk?

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