Social Networks and Stock Returns
February 24, 2009
Mutual funds earn significantly higher returns on stocks when their managers are connected to the companies by social networks. New research shows fund performance improves when a fund manager shares a common educational background with corporate CEOs, CFOs, and Board members.
Chris Malloy, professor of finance at the Harvard Business School, shared the results of his research with alumni in a presentation on February 17, 2009. Malloy’s findings are published in his paper, The Small World of Investing: Board Connections and Mutual Fund Returns, which he co-authored with Andrea Frazzini of the University of Chicago and Laruen Cohen, also of Harvard Business School. In a related paper, Sell Side School Ties, Malloy and his co-authors showed that sell-side analysts’ recommendations perform better when there are educational connections between the analyst and key company personnel.
“Information is a big determinant in performance,” Malloy said, “but it is less clear how it moves.”
Malloy’s paper begins to answer that question by highlighting the role of educational background. Malloy and his co-authors identified four levels of connections between fund managers or sell-side analysts and key company personnel (CEOs, CFOs, and Board members), depending on whether they attended the same school, attended the same school and earned the same degree (e.g., MBA), attended the same school at the same time, and whether they attended the same school and earned the same degree at the same time.
Malloy and his co-authors studied data from 4,000 mutual funds and 5,000 companies, examining data over a 16-year period, from 1990 to 2006. Outperformance in the mutual fund study was persistent over this period, whereas the outperformance in the sell-side analyst study diminished following the enactment, in 2000, of Regulation FD (which forced broader disclosure by sell-side analysts).Display article as PDF for printing.
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