A Tale of Bad Days: Investor Preferences, Smart Money, and Fund Manager Skill

Abstract

While modern financial markets provide investors with almost instant access to return data, whether they monitor fund performance at high frequency and the implications of this behavior remain unclear. We show that investor flows respond strongly and symmetrically to fund performance on days with low market returns (bad days) but barely respond on good days. Consistent with the smart money hypothesis, outperformance on bad days is persistent and contributes to long-term outperformance. We find no evidence that managers can consistently outperform on both bad and other days. Instead, outperformance on bad days relies on specialized trading strategies and broker connections.

Keywords: Mutual funds, skill, investor preferences, flow-performance sensitivity, smart vs. dumb money, skill vs. luck, bad days, institutional broker connections

JEL Classification: G11, G23, G41