Fund Promotion and Individual Investor Fund Flows

The standard paradigm in financial economics rests on the assumption that investors are rationally acting individuals who choose a portfolio of risky assets that maximizes expected utility for given risk preferences. This implies that any investor`s choice solely must rest on the expected risk return trade-off of given securities in combination with the risk tolerance embedded in her preferences. As a result, flows into and out of a fund should primarily be driven by their expected performance characteristics. Empirical research on mutual funds documents that aggregate investor fund flows are governed by a variety of fund characteristics including fees, past performance, and the fund family. While those variables are drivers that are potentially consistent with rational choice theory, the effects of promotion, advertising and attention require a separate treatment. This project empirically evaluates the importance of promotion for the determination of fund flows initiated by individual investors. We use a unique data set from an online broker that is the outcome of a real life experiment that allows us to explore the effects of a monthly price promotion on fund flows initiated by individual investors. Each month, the online broker promoted a different fund which individuals were able to buy at a substantially reduced front load fee. We make use of this natural experiment to study the reaction of individual investors to this promotional policy. The data set contains detailed information on the mutual fund trades of individuals on a daily basis. We are able to differentiate between trades of the promoted mutual funds and standard mutual funds unambiguously. We develop an empirical approach that allows us to measure individual investor fund flows. We study the impact of fund characteristics on individuals` fund flows exploring whether or not there is a behavioral overshooting associated with the promotional strategy. We also analyze the performance consequences for an individual investor when she rebalances her portfolio in favor of a promoted mutual fund. To our knowledge, this project is the first attempt to empirically evaluate the importance of attention and promotion on individual investor fund flows. While similar studies have been carried out with purchase decisions of individual stocks and aggregate fund flows, there has been no empirical evidence yet which looks at the individual investor fund flow dimension.

The standard paradigm in financial economics rests on the assumption that investors are rationally acting individuals who choose a portfolio of risky assets that maximizes expected utility for given risk preferences. This implies that any investors choice must be based on the expected risk return trade-off for given securities. As a result, flows in and out of a fund should primarily be driven by its expected performance. Empirical research on mutual funds documents, however, that aggregate investor fund flows are governed by a variety of fund characteristics including fees, past performance, and the fund family. Recently promotion and attention has been an active research topic to explain fund flows. While many of these fund flow drivers are consistent with rational choice theory, the effects of promotion, advertising and attention require a separate treatment. This project empirically evaluates promotion as one of the sources for fund flows of individual investors. We use a unique data set from an online broker that resulted from a promotion strategy the company employed on a monthly basis over several years. Each month, the online broker promoted a selected fund (the fund of the month) by online advertising and a substantial reduction in its front load fee. We make use of this natural experiment to study individual investors fund flows triggered by this promotional strategy. As the promotion consists of advertising that increases attention for a given fund and cost reductions the resulting fund flow data can be used to disentangle rational (cost driven) from behavioural (attention driven) fund flows. The data set contains detailed information on every single mutual fund trade of over 20.000 individuals. Hence, we are able to compare fund flows of the promoted with standard mutual funds. We find that the promotion strategy of the broker had an enormous impact on the individual investors fund flows. During the month a fund was selected as the fund of the month inflows increased substantially irrespective of the type of the fund and the fund family. Sales during that period are not constant but exhibit a U-shape. During the beginning and towards the end of the month flows are substantially higher than in the interim period. Hence, investors are waiting for a new fund to become the fund of the month and try not to miss the opportunity to take advantage of the price promotion towards the end of the promotion period. Comparing the cost with the attention triggered sales motives we find that flows into the fund of the month are entirely driven by the cost effect and not the attention effect. This result is very robust with respect to different investor groups such as male and female investors, investors with and without higher educated and younger and older investors.