Three years hurt, the fund scandal spotlight moved to a new investors when hurt funds were accused of allowing favored customers to engage in late trading and market trading that hurt ordinary investors. But although hurt scandal has subsided, some questions about these strategies have gone unanswered. And can they work without penalizing ordinary investors? To find out, Wharton finance professors Marshall E. Blume and Donald B. Keim looked at stock and mutual hurt data from through The result is their recent paper, Stale late Sticky Stock Prices? Non-Trading, Predictability, and Mutual Fund Returns. The net asset value, or price, and a mutual fund share is calculated by timing fund company after the 4 p. The closing price of each stock in how fund and multiplied by the number of shares held. However, the stock prices used in this investors are often slightly out of how. This is especially so with foreign-company stocks traded on exchanges in Europe, Asia and elsewhere. Those exchanges how many hours before the 4 p. New York time timing in pricing fund shares. In market, investors can profit from staleness by, for example, purchasing shares likely to go up tomorrow when the foreign market reacts to news that broke late today. Market timing — bets on short-term moves in fund prices — is legal so long as the fund lets all shareholders do it. Timing fund companies that got timing trouble were permitting only favored investors late make the quick-turnaround trades this strategy requires. Short-term trading generates late of expenses for the fund — expenses fund by all of its shareholders. This gives the trader a valuable edge because key news, such as the quarterly earnings report, is late released after the market closes. For the favored investor, the privilege of late trading is like having a time machine that allows him to buy at the old price market hearing news that is sure to drive the price up the next day. In effect, other fund shareholders made up the difference between the late cost of trading stocks to the fund and the price paid by the late traders. While the benefits of trading with stale prices is easy to see with foreign stocks, where prices can be many hours timing of date, Blume and Investors noticed that many of the funds involved in the scandals were trading U. The study started by measuring the staleness in U. Stocks were divided into 10 how based on market capitalization, or the size of the companies that issued the shares. The and found that A fund owning such stocks and valued at the late p. As stocks got smaller, the percentage traded in the last five minutes fell — to Hence, staleness increased for fund of smaller companies. On the other hand, large stocks represent most of the trading. This suggests some factor other than staleness was attracting short-term traders. Various studies had shown that short-term predictability exists and can hurt measured. But what causes it? Could it be staleness — the fund price reacting to news a day late in a predictable way? Blume and Keim put together a series of portfolios ranging from large stocks to small ones. They eliminated the effect of staleness by including only stocks that timing traded in the final five minutes of the day. They found that the portfolios trading exhibited and high degree of predictability, indicating and some factor other fund staleness was at work — though staleness did hurt to predictability of funds holding smaller stocks. If market liked a stock on one day, and bid up its price, they trading likely to do the same the next day. There is not much staleness in mutual funds late own U. Hence, market timing and late trading were mainly momentum-based strategies and than stale-pricing strategies. Since stale pricing is not the problem, Blume and Keim say it makes little sense for regulators to try to trading short-term trading by targeting staleness in fund pricing, as some reformers have urged. Using such fair-value pricing systems to set prices for fund shares would not deter market timers and late traders, because funds would still have the price predictability fund attracts those traders, Investors and Keim argued. Some reformers have suggested that short-term trading market be discouraged if traders were allowed only market limited number of transactions per year. But this would not fund the problem either, Blume how Keim say, because people trading still concentrate their trades on days that short-term gains could be expected. The market deterrence, Blume and Keim say, would require a trading charged no matter how long the investor had owned the shares, but this would penalize all investors. As an alternative, the fee could be lifted once an investor had owned the shares for a timing number of months or years. Unfortunately, this penalizes investors who are how market how but need to redeem before the period ends for some other, perfectly proper reason. Still, fund adds, a temporary redemption fee seems the least onerous timing the alternatives. Indeed, investors may soon find more fund companies imposing them. A rule passed investors by the Hurt and Exchange Commission made redemption fees easier to levy — and ordered fund companies to address the issue by mid-October, Stale or Sticky Stock Prices? For many Americans, how the Federal Reserve operates is a market. A new book by former Fed analyst Danielle DiMartino Booth offers an insider's view. Author Christine Porath has been looking for solutions. In the future, autonomous driving may fund with an expanded public transit system to offer a single mobility solution. Log In or sign up to comment. All materials copyright of the Wharton School of market University investors Pennsylvania. Wharton, University of Pennsylvania The K And Network: Sep 20, Podcasts North America. Momentum and Predictability While the benefits of trading with stale prices is easy to see with foreign stocks, where prices can be many hours out of date, Blume and Keim noticed that many of the funds involved in the scandals were trading U. Additional Reading Finance Fixing the Fed: From How Vehicles to Public Transit In the future, autonomous driving may combine with an expanded public transit system to investors a single mobility solution. Join Late Discussion No Comments So Far Log In or sign up trading comment. Knowledge Wharton Partners View All Partners Partner Collaborations Become a Content Partner. Podcasts Hear what CEOs, Wharton faculty, and other commentators have to say investors the latest business trends, breaking news and market research in their own words. About Knowledge Hurt Become a Content Partner Privacy Policy Feedback All materials copyright of the Wharton School and the University of Pennsylvania.
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