Common Fund Flows: Flow Hedging and Factor Pricing

63 Pages Posted: 24 Apr 2020 Last revised: 7 Jun 2021

See all articles by Winston Dou

Winston Dou

The Wharton School, University of Pennsylvania

Leonid Kogan

Massachusetts Institute of Technology (MIT) - Sloan School of Management; National Bureau of Economic Research (NBER)

Wei Wu

Texas A&M University

Date Written: May 31, 2021

Abstract

Active mutual fund managers care about fund size, which is affected by common fund flows driven by macroeconomic shocks. Fund managers hedge against common flow shocks by tilting their portfolios toward low-flow-beta stocks. In equilibrium, common flow shocks earn a risk premium. A multi-factor asset pricing model similar to the ICAPM arises, even with all agents behaving myopically. Empirically, fund flows obey a strong factor structure with the common component earning a risk premium, and fund portfolios are, on average, tilted toward low-flow-beta stocks. This tilt increases in magnitude when flow-hedging motives strengthen following natural disasters and unexpected trade-war announcements.


Keywords: Mutual fund flows, Factor models, Heterogeneous agents, Financial intermediaries, Price impact, Uncertainty.

JEL Classification: G11, G12, G23

Suggested Citation

Dou, Winston and Kogan, Leonid and Wu, Wei, Common Fund Flows: Flow Hedging and Factor Pricing (May 31, 2021). Jacobs Levy Equity Management Center for Quantitative Financial Research Paper , Available at SSRN: https://ssrn.com/abstract=3543675 or http://dx.doi.org/10.2139/ssrn.3543675

Winston Dou (Contact Author)

The Wharton School, University of Pennsylvania ( email )

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Leonid Kogan

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

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National Bureau of Economic Research (NBER)

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Wei Wu

Texas A&M University ( email )

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