What Alleviates Crowding in Factor Investing?

69 Pages Posted: 22 Sep 2021

See all articles by Victor DeMiguel

Victor DeMiguel

London Business School

Alberto Martin-Utrera

Iowa State University

Raman Uppal

EDHEC Business School; Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: September 2021


The growing number of institutions exploiting factor-investing strategies raises concerns that crowding may increase price-impact costs and erode profits. We identify a mechanism that alleviates crowding -- trading diversification: institutions exploiting different characteristics can reduce each other's price-impact costs even when their rebalancing trades are not negatively correlated. Empirically, trading diversification increases capacity by 45%, optimal investment by 43%, and profits by 22%. Using a game-theoretic model, we show that, while competition to exploit a characteristic erodes its profits because of crowding, competition among institutions exploiting other characteristics alleviates crowding. Using mutual-fund holdings, we provide empirical support for the model's predictions.

Keywords: capacity of quantitative strategies, Competition, price impact

JEL Classification: G11, G12, G23, L11

Suggested Citation

DeMiguel, Victor and Martin-Utrera, Alberto and Uppal, Raman, What Alleviates Crowding in Factor Investing? (September 2021). CEPR Discussion Paper No. DP16527, Available at SSRN: https://ssrn.com/abstract=3928838

Victor DeMiguel (Contact Author)

London Business School ( email )

Sussex Place
Regent's Park
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United Kingdom

Alberto Martin-Utrera

Iowa State University ( email )

613 Wallace Road
Ames, IA 50011-2063
United States

Raman Uppal

EDHEC Business School ( email )

58 rue du Port
Lille, 59046

Centre for Economic Policy Research (CEPR)

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London, EC1V 7RR
United Kingdom

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