Fund Flows, Liquidity, and Asset Prices

Abstract

This paper tests whether mutual funds on aggregate matter for the equilibrium stock returns due to (i) uncertain fund flows, which directly affect fund size and managers' income; and (ii) time-varying liquidity costs of assets. I find the aggregate shocks to fund flows enter the pricing kernel in equilibrium and price 100 liquidity, fund flow beta, size, book-to-market, profitability, and investment portfolio returns net of liquidity costs. The risk prices for the aggregate flow shocks are similar across the separate portfolios and different model specifications, supporting the prediction that one pricing kernel of mutual funds prices a range of cross-sections.

Keywords: Intermediary asset pricing, Mutual fund flows, Liquidity, Equity cross section

JEL Classification: G12, G20, G23