What Drives Asset Holdings? Commonality in Investor Demand

Abstract

I empirically show that changes in investor holdings exhibit a low-dimensional factor structure that is economically interpretable. Using an extended version of Instrumented Principal Components Analysis (IPCA), I model changes in a large sample of sector-level investor holdings and recover latent factors and sector-specific loadings on the factors. I find that the recovered factors reflect the state of the macroeconomy and financial constraints of investors. Investor loadings on the factors reveal partially pro-cyclical trading behavior of the banking sector and of mutual funds, while hedge funds and pension funds act partially counter-cyclically. In addition, I document that the set of characteristics relevant for explaining changes in holdings is likely wider than implied by common risk factor models. Finally, using the decomposition of holdings changes implied by IPCA, I demonstrate asset pricing effects consistent with institutional price pressures from banks and mutual funds, as well as market-timing ability of investment advisors that is unrelated to common asset characteristics.

Keywords: Investor holdings, Latent Demand, Instrumented Principal Components Analysis

JEL Classification: G11, G12, G21, G22, G23