New studies show that the “so-called smart money is prone to many of the same errors as amateurs,” writes Wall Street Journalcolumnist Jason Zweig.
Professional investors, he argues, “rack up high fees for results that a blindfolded chimpanzee would be ashamed of,” adding that they “hold stocks too long,” “react erratically to stock splits,” and “they may even buy one stock when they intended to purchase a different one.”
Zweig cites the findings of a several studies. The first, released this month by UK-based firm Essentia Analytics, evaluated 14 years of data on more than 9,000 investments. Zweig reports that the study reflected how “managers held on to stocks well past their peak—reducing the performance contribution from those position by an average of 0.07% from peak to final sale.” While the amount might seem small, Zweig points out, it is “more than twice the total annual expenses of popular exchange-traded funds.”
Essentia’s head of research, Chris Woodcock, attributes the findings to the “endowment effect,” a tendency to put value on what is owned and therefore be reluctant to part with it. Portfolio managers, says Woodcock, “put greater focus on positive rather than negative attributes” of the shares they own.
A second study conducted at the Yale School of Management found that important information regarding companies had a bigger impact on stocks with lower share prices. The study’s co-author, finance professor Kelly Shue, said that even among firms with extremely high institutional ownership, “the bias is strong and significant” and may cause stocks with low share prices to fluctuate “more sharply than the facts justify.”
A third study reviewed more than 250 companies with similar names or tickers to determine how many trades originated from mistaken identity. The study’s authors estimated that such mistakes would represent about 5% of total trading volume and that individual investors would be the sole culprits, but they were mistaken. Zweig reports that the finding showed “institutions made such trades roughly as often,” adding that computer-driven trading firms might do so deliberately to ride a spike in price that occurs when naïve investors confuse ticker symbols and buy the wrong stock.