Positive Feedback Trading and Stock Prices: Evidence from Mutual Funds

48 Pages Posted: 13 Feb 2019

See all articles by Cameron Peng

Cameron Peng

London School of Economics & Political Science (LSE) - Department of Finance

Chen Wang

Yale School of Management

Date Written: February 1, 2019

Abstract

We show that mutual funds contribute to cross-sectional momentum and excess volatility through positive feedback trading. Stocks held by positive feedback funds exhibit much stronger momentum, almost doubling the returns from a simple momentum strategy. This “enhanced” momentum is robust to alternative measures of positive feedback trading and cannot be explained by other stock characteristics, ex-post firm fundamentals, fund flows, or herding. Moreover, enhanced momentum is almost fully reversed after one quarter, suggesting initial overshooting and subsequent reversal. We argue the most likely explanation is the price pressure from positive feedback trading. Finally, we relate positive feedback trading to mutual fund performance and show that it can positively predict a fund’s return from active management.

Keywords: Positive Feedback Trading, Mutual Funds, Price Pressure, Momentum

JEL Classification: G12, G23, G40

Suggested Citation

Peng, Cameron and Wang, Chen, Positive Feedback Trading and Stock Prices: Evidence from Mutual Funds (February 1, 2019). Available at SSRN: https://ssrn.com/abstract=3327849 or http://dx.doi.org/10.2139/ssrn.3327849

Cameron Peng (Contact Author)

London School of Economics & Political Science (LSE) - Department of Finance ( email )

United Kingdom

Chen Wang

Yale School of Management ( email )

165 Whitney Ave PhD Suite
New Haven, CT 06511
United States

HOME PAGE: http://chenwang.one

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