Is Hard and Soft Information Substitutable? Evidence from Lockdown

Abstract

We study the degree of information substitutability in the financial market. Exploiting the cross-sectional and time-series variations of the pandemic-triggered lockdowns that have hampered people's physical interactions hence the ability to collect, process, and transmit soft information, we investigate how the difficulty/inability to use soft information has prompted a switch to hard information, and its implication on fund performance. We show that lockdown reduces fund investment in proximate stocks and generate a portfolio rebalancing towards distant stocks. The rebalancing has negative implications on fund performance by reducing fund raw (excess) return of an additional 0.76% (0.29%) per month during lockdown, suggesting that soft and hard information is not easily substitutable. We show that soft information originates mainly with geographic proximity and human interactions, mostly in cafe, restaurants, bars, and fitness centers. This suggests that the virtual world based on Zoom/Skype/Team has direct negative implications on the ability of collecting soft information and therefore affects strategies relying on them such as proximity investment.

Keywords: mutual funds; soft information; COVID-19; proximity investing

JEL Classification: G12, G14, G23