An Institutional Theory of Momentum and Reversal

Authors / Editors

Research Areas

Publication Details

Output type: Journal article

Author list: Vayanos D, Woolley P

Publisher: Oxford University Press

Publication year: 2013

Journal: The Review of Financial Studies (0893-9454)

Volume number: 26

Issue number: 5

Start page: 1087

End page: 1145

Number of pages: 59

ISSN: 0893-9454

eISSN: 1465-7368

Languages: English-Great Britain (EN-GB)

Unpaywall Data

Open access status: green

Full text URL: https://www.nber.org/system/files/working_papers/w14523/w14523.pdf

Abstract

We propose a theory of momentum and reversal based on flows between investment funds. Flows are triggered by changes in fund managers' efficiency, which investors either observe directly or infer from past performance. Momentum arises if flows exhibit inertia, and because rational prices underreact to expected future flows. Reversal arises because flows push prices away from fundamental values. Besides momentum and reversal, flows generate comovement, lead-lag effects, and amplification, with these being larger for high idiosyncratic risk assets. A calibration of our model using evidence on mutual fund returns and flows generates sizeable Sharpe ratios for momentum and value strategies.

Keywords

D82, G11, G12, G14, G23

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