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Inexperienced Investors and Bubbles

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Inexperienced Investors and Bubbles


The paper, by Robin Greenwood and Stefan Nagel, compare the portfolio holdings and returns of young and old mutual fund managers during and after the technology stock bubble. Around the peak of the bubble, younger mutual funds managers more heavily invested in technology stocks than their older counterparts. Younger managers increased their technology holdings following quarters in which technology stocks experience high returns, while older managers did not. These young managers, but not old managers, followed trends for their technology stock investments. The authors also explain how inexperienced investors play a major role in creating asset price bubbles. These investors usually underestimate the prospects of declining stock prices and become more than willing to buy high-priced stocks.

A.Defining the Bubble Segment
The authors use the price/sales ratio to recognize stocks affected by the technology bubble.
B.Data on Funds and Characteristics of Managers
The data of the characteristics, chiefly age, and number of managers of all equity mutual funds in operation at the end of December 1997 are procured from Morningstar.
C.Alternative Measure of Exposure to Technology Stocks: Return Regressions
As an alternative measure of technology stock exposure, the authors calculate the technology exposure by using regression of fund returns.
D.Summary Statistics
The authors summarize the basic statistics on fund manager data.
A.Holdings of technology stocks of young and old managers
The authors illustrate the relation of age with technology exposure. In addition, they conduct a robustness check for alternative measure of technology exposure; single vs. teams of managers; within the age groups of young and old managers and others. 
B.Sensitivity of holdings to past performance of technology stocks
The authors prove trend-chasing behavior of young managers, wherein young managers actively increased their technology stock exposure during rising technology stock prices and vice versa.
C.Flows into young and old manager funds
The authors discuss the percentage of inflows of new funds and abnormal returns experienced by young fund managers.
D.Alternate theories
The results are tallied with other theories.
i.    Technology-sector specific human capital
The authors negate the theory that young managers are good at picking technology stocks than old managers.
ii.   Herding
The authors find that young managers deviate from their benchmarks in support of technology investments and avoid herding.  
iii.   Window dressing
The authors also rule out the theory that young managers resort to window dressing to attract inflows and garner abnormal returns.  
The authors finally deduce that younger fund managers prefer technology stocks, mostly at the peak of the bubble and also display a trend-chasing behavior. They increase their holdings in technology stocks after quarters with high technology stock returns. Consequently, large abnormal inflows along with high returns experienced by technology stocks cause young managers to control a significant fraction of total mutual fund assets at the peak of the bubble. However, these young managers do not have better skills at picking well-performing technology  stocks than older managers.

Greenwood, Robin Marc and Nagel, Stefan, "Inexperienced Investors and Bubbles" (February 7, 2007). AFA 2008 New Orleans Meetings Paper Available at SSRN:



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