Anticipatory Trading Against Distressed Mega Hedge Funds

Abstract

We examine the trading activity of institutional investors when mega hedge funds (MHFs) experience financial distress. Stocks that are anticipated to be sold by distressed MHFs next quarter experience greater selling by other institutions and elevated short interest in the current quarter. We also find that a one standard-deviation higher measure of anticipatory trading predicts 1.57% per year lower abnormal equity portfolio returns for distressed MHFs. Stocks that are anticipated to be sold by distressed MHFs experience negative abnormal returns and subsequent return reversals. We conclude that institutions trade ahead of the distressed trades of MHFs and destabilize stock prices.

Keywords: Hedge funds, Anticipatory trading, Front-running, Mega hedge funds, Fire sales

JEL Classification: G12, G20, G23