Ratings-Driven Demand and Systematic Price Fluctuations. (11th September 2021)

• Record Type: Journal Article
• Authors: Ben-David, Itzhak; Li, Jiacui; Rossi, Andrea; Song, Yang
• Editors: Koijen, Ralph
• Is Part Of: Review of financial studies. Volume 35:Number 6(2022)
• Page Start: 2790
• Page End: 2838
• Publication Date: 2021-09-11
• Subjects: G11 -- G24 -- G41; Finance -- United States -- Periodicals; Finance -- Periodicals; 332
• DOI: 10.1093/rfs/hhab104
• Languages: English
• ISSNs: 0893-9454

Abstract

Abstract: We show that mutual fund ratings generate correlated demand that creates systematic price fluctuations. Mutual fund investors chase fund performance via Morningstar ratings. Until June 2002, funds pursuing the same investment style had highly correlated ratings. Therefore, rating-chasing investors directed capital into winning styles, generating style-level price pressures, which reverted over time. In June 2002, Morningstar reformed its methodology of equalizing ratings across styles. Style-level correlated demand via mutual funds immediately became muted, significantly altering the time-series and cross-sectional variation in style returns.