The Granular Nature of Large Institutional Investors

Abstract

Large institutional investors own an increasing share of equity markets in the U.S. The implications of this development for financial markets are still unclear. The paper presents novel empirical evidence that ownership by large institutions predicts higher volatility and greater noise in stock prices, as well as greater fragility at times of crisis. When studying the channel, we find that large institutional investors exhibit traits of granularity, i.e., sub-units within a firm display correlated behavior, which reduces diversification of idiosyncratic shocks. Thus, large institutions trade larger volumes and induce greater price impact.

Keywords: Institutional investors, Concentration, Granularity, Fire Sales, Liquidity

JEL Classification: G01, G12, G23