Salience and Mutual Fund Investor Demand for Idiosyncratic Volatility
89 Pages Posted: 16 Jan 2016 Last revised: 11 May 2020
Date Written: May 11, 2020
Abstract
We find that mutual fund investors are more likely to both purchase and redeem funds with high idiosyncratic volatility (IV). Investors’ tendency to purchase high IV funds is largely driven by high IV funds having more extreme returns, which increases the salience of the fund. Including flexible controls for extreme past returns over multiple horizons decreases the effect of IV on new investment, and experimental evidence corroborates that increasing the salience of extreme returns increases investor demand for IV. Demand for IV is higher among retail investors and funds with otherwise lower salience. Collectively, the evidence suggests that extreme returns attract investor
attention and contribute to investors’ risk seeking behavior when purchasing mutual funds.
Keywords: Idiosyncratic Volatility, Mutual Funds, Search Costs
JEL Classification: G10, G23
Suggested Citation: Suggested Citation