Beiträge zur Jahrestagung des Vereins für Socialpolitik 2010: Ökonomie der Familie - Session: Individual Investments and Portfolio Choice No. C19-V4
This study analyzes the trading activity of institutional investors on German Stock Exchanges to evaluate herding behavior and its determinants. The paper uses a unique and superior high-frequent investor-level database that directly identifies every transaction of banks and financial service institutions in German stocks. The analysis therefore overcomes the data problems that previous studies face and provides new evidence on the short-term herding behavior of financial institutions. By covering the period from July 2006 until March 2009, the datasample includes market upturns as well as the recent market turmoil resulted in a rapid downturn. First, the analysis reveals short-term herding behavior of most active financial institutions. Second, the replication of the analysis with low-frequent and anonymous transaction data, on which the bulk of literature is based, indicates an overestimation of herding by previous studies. Third, as opposed to findings in prior studies, our results do not confirm that small capitalization and less liquid stocks are more vulnerable to herding behavior. We find that herding is more pronounced in DAX 30 shares with a herding level of 5.17% for the most active institutions. These results suggest that herding behavior by financial institutions is not attributed to less information availability or information asymmetry. It rather occurs unintentionally and results from sharing the same preference and investment style. Fourth, a panel analysis confirms this conclusion and gives further insights on the determinants of herding. In particular, herding depends on past volatility and past returns of the specific stock. Herding on the buy side is negatively related, whereas herding on the sell side is positively related to past returns. These results imply contrary to previous studies, that financial institutions are not engaged in positive feedback strategies. Moreover, we found that financial institutions herd more on the sell side according to a rise in volatility of the stocks. This could be a result of the common use of risk models, for instance VaR models, which reduce the diversity of decision rules forcing banks to act like a herd.