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The holdings markup behavior of mutual funds: evidence from an emerging market

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Abstract

This paper uncovers a seasonal mutual fund holdings markup pattern in Taiwan’s market. Specifically, we find that fund’s equity holdings jump up significantly at the quarter-ends and year-end while drop back immediately to the previous level in the following month. While the holdings markup pattern found in this paper may look similar to the price markup phenomenon found by Carhart et al. (J Finance 57:661–693, 2002), the mechanism used by fund managers in the performance inflation may be quite different. In specific, while Carhart et al. (J Finance 57:661–693, 2002) document that fund managers use the stocks currently held in their portfolio to mark up the fund performance, we find that fund managers in fact use both the stocks already held in their portfolio and the new stocks to mark up their holdings. Furthermore, Carhart et al. (J Finance 57:661–693, 2002) do not explicitly examine if there exists a holdings markup in addition to the price markup. In this study, we fill this gap by directly exploring the holdings markup behavior by the fund managers. We also identify the specific stock characteristics that fund managers prefer in their holdings markup. In specific, fund managers prefer to trade growth stocks, stocks with larger market capitalization, higher institutional ownership, higher quality of earnings, and stocks in the high-tech industry, to inflate the fund performance. We also find that fund managers tend to avoid stocks that are herded by other funds.

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Notes

  1. We are unable to examine directly the price markup pattern evidenced by Carhart et al. (2002) due to lack of trading data on Taiwan’s market. However, the results shown in Table 4 are similar to the price markup where the increase of returns in NAVs at the quarter-ends represents the price markup of the funds.

  2. Hu et al. (2014) also point out that there is no direct evidence that institutional investors’ trading activities at the quarter-ends or year-end are related to buying winners or selling losers.

  3. In Taiwan, equity-in-general funds are required to hold at least 70%, but no more than 95%, of equity securities. Small-cap funds are required to hold mid to small-size stocks with market capitalization less than NT$8 billion, with their stock holdings subject to the same 70–95% restriction of their fund sizes. The balanced funds may hold both stocks and bonds, while their stock holdings are limited to 75% of their fund sizes. And the high-tech funds are equity funds whose holdings are concentrated on the high-tech industry.

  4. It is worth noting that the seasonal return pattern of the holdings markup shown in Table 4 is quite different from, and not related to, the “turn-of-the-year effect” (“January effect”). If they are related, then we should see a significant positive excess return of the holdings markup at the year-end. However, in fact those excess returns at the year-end from Table 4 for various fund styles are actually all showing negative signs, which indicates that the return seasonal pattern of the holdings markup is not caused by the “turn-of-the-year effect”.

  5. For example, Grinblatt et al. (1995) and Wermers (1999) both evidence the herding behavior of mutual funds. Furthermore, Falkenstein (1996) documents that fund managers tend to prefer stocks with some specific characteristics, which may also lead to the fund managers’ herding behavior.

  6. In a separate table that is not reported here, we also look at the holdings percentage for each of the fund categories and all of the numbers are quite similar to those in the “All Funds” sample.

  7. For example, both Hu et al. (2014) and Bhattacharyya and Nanda (2013), among others, have found significant portfolio pumping by the institutional investors.

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Correspondence to Jerry Yu.

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Wang, CC., Yu, J. The holdings markup behavior of mutual funds: evidence from an emerging market. Rev Quant Finan Acc 50, 393–414 (2018). https://doi.org/10.1007/s11156-017-0633-1

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