Institutional trade persistence and long-term equity returns

How does the trading behaviour of institutional money managers affect stock prices? In this paper we document a robust relationship between the net trade patterns of institutional money managers and long term equity returns. Examining quarterly data on US institutional holdings from 1983 to 2004, we find evidence that stocks that have been persistently bought (sold) by institutions in the past 3 to 5 quarters underperform (overperform) the rest of the market in the next 12 to 30 months. Our results are of a similar magnitude to, but distinct from, other known asset pricing anomalies. Furthermore, we find that institutional investors show an aggregate tendency to trade in the direction of past institutional trades, buying stocks that have been persistently bought and selling stocks that have been persistently sold. We present a simple model of career-concerned trading by delegated portfolio managers that generates results consistent with our empirical findings.