Factor demand and factor returns

Peng, Cameron ORCID: 0009-0008-1297-8686 and Wang, Chen (2021) Factor demand and factor returns. Financial Markets Group Discussion Papers (829). Financial Markets Group, The London School of Economics and Political Science, London, UK.

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Abstract

A mutual fund's demand for a pricing factor, measured by the loading of the fund's returns on the factor's returns, is persistent over time. When stock characteristics are time-varying and change frequently, persistence in factor demand generates a need for rebalancing. This rebalancing motive, in turn, leads to predictable trading from mutual funds and contributes to cross-sectional return predictability. In particular, when there is a "mismatch" between a stock's characteristic and the underlying funds' demand for that characteristic, the "mismatched" stock will face selling pressure from the underlying funds and subsequently earn lower returns. Double-sorting on stocks' characteristics and mutual funds' factor demand refines value and momentum strategies, generating abnormal returns that cannot be explained by subsequent fundamentals or retail trading flows.

Item Type:	Monograph (Discussion Paper)
Official URL:	https://www.fmg.ac.uk/
Additional Information:	© 2021 The Authors
Divisions:	Finance
Subjects:	H Social Sciences > HC Economic History and Conditions H Social Sciences > HG Finance
JEL classification:	G - Financial Economics > G1 - General Financial Markets > G12 - Asset Pricing; Trading volume; Bond Interest Rates G - Financial Economics > G2 - Financial Institutions and Services > G23 - Pension Funds; Other Private Financial Institutions
Date Deposited:	23 May 2023 12:54
Last Modified:	01 Oct 2024 04:04
URI:	http://eprints.lse.ac.uk/id/eprint/118884

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