Discussion Paper Details

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Title: More Risk, More Information: How Passive Ownership Can Improve Informational Efficiency

Author(s): Adrian Buss and Savitar Sundaresan

Publication Date: June 2020

Keyword(s): asset allocation, Asset Pricing, Informational efficiency, passive investing and Risk Taking

Programme Area(s): Financial Economics

Abstract: We identify a novel economic mechanism through which passive ownership positively affects informational efficiency in the cross-section of firms. Passive ownership lowers the cost of capital, encouraging firms to invest more aggressively in risky growth opportunities. The resultant higher cash flow volatility induces active investors to acquire more information, implying higher price informativeness for firms with high passive ownership. These firms also have higher stock prices and higher stock-return variances. In aggregate, a rise in passive ownership can also improve informational efficiency if uninformed investors are crowded out. We document that our mechanism applies more generally to benchmarked institutional investors.

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Bibliographic Reference

Buss, A and Sundaresan, S. 2020. 'More Risk, More Information: How Passive Ownership Can Improve Informational Efficiency'. London, Centre for Economic Policy Research.