Political Beliefs Matter for Fund Managers
Two leading political parties, the Democrats and Republicans, have dominated the United States politic for decades. As a consequence, the significant differences in views on major issues of partisans from different parties may influence their economic expectations. Recent studies found that partisan politics significantly impacts household beliefs and economic decision-making. But do political beliefs matter to institutional investors?
The paper focused on mutual funds – an important class of institutional investors. The two most remarkable differences between households and active fund managers are their trading frequency and reaction to political events. Households react after political events occur, while on the other hand, mutual funds prepare in advance and trade more frequently. The authors (Cassidy and Vorsatz) showed that the political beliefs of mutual fund managers matter. First, they collected information about mutual fund managers and their self-reported party affiliation from state-level voting registration records. Then, merging this data, they matched approximately 2000 managers active as fund managers. According to the paper, before and after the 2020 election, when the Democratic presidential candidate (Joe Biden) won, funds with a higher share of Democratic managers purchased more equity than other funds. They also observed this trend around Barack Obama’s re-election in 2012, with a minor yet significant effect, indicating that this effect grows over time. On the other hand, the pattern reversed in 2016 when the Republican candidate (Donald Trump) won and Republicans purchased more equity than Democrats. In conclusion, politics plays a vital role in forming economic expectations, and this effect is not limited to households but strongly influences mutual funds managers’ decisions.
Authors: Will Cassidy and Blair Vorsatz
Title: Partisanship and Portfolio Choice: Evidence from Mutual Funds
Political beliefs matter for the behavior of institutional investors. Contrary to conventional wisdom, we show that whether a mutual fund team is Republican or Democratic has a first-order effect on the fund’s portfolio choice. Before and after the 2016 Presidential election, Republican teams actively purchase more equity, especially in high beta industries. Around the 2020 election, Democratic teams do the same. The flip in trading behavior rules out conventional risk aversion-based explanations for the role of partisanship. Instead, political beliefs appear to drive this trading, with managers appearing more optimistic when their political party wins the presidency. These effects are also present in 2012 but have grown over time.
As always we present several interesting figures:
Notable quotations from the academic research paper:
„Our paper’s first contribution is to show that political beliefs translate into economic decisions. The literature has been fairly mixed, finding at most a small effect. We study the relation between political beliefs and economic decisions in an ideal environment, as mutual fund managers trade very actively, are financially sophisticated and strongly monetarily incentivized, and receive frequent performance feedback. That even mutual fund managers make economic decisions in line with their political beliefs suggests this channel may be more pervasive than previously believed. Our results show that the asset management industry is not in fact immune from meaningful political biases, as fund managers actively trade in accord with their political beliefs.
Our paper’s second contribution is to corroborate an important mechanism through which political beliefs shape economic decisions. Kempf and Tsoutsoura (2021) and Dagostino et al. (2020) show that credit analysts and bankers appear more optimistic when their party wins the presidency and more pessimistic when their party loses the presidency. Our results are analogous, focusing on mutual fund managers. This mechanism is important because it emphasizes that political beliefs matter.
Our paper’s third contribution is to study the reaction of partisans to Biden’s 2020 presidential election. To the best of our knowledge, we are the first paper to do so. We show that Democratic fund managers increase their risk-taking both before and after Biden’s election, while Republican managers do not.
Evidence from this and other work indicate that politics plays a pervasive role in the expectations formation and actions of economic agents. As the United States is forecast to become even more politically polarized, it is likely that the effects we document will only become more important. Importantly, this research and other recent studies suggest that these effects are not limited to households. Corporate boards and mutual fund teams, among other sophisticated economic agents, are also strongly influenced by their political beliefs.
From the perspective of investors, this raises important questions about the role of politics in intermediation. Managers’ beliefs affect the trading and performance of the fund. Investors may want to exercise caution if their own beliefs are different from those of the fund managers. This principal-agent problem is compounded by the lack of information available to investors, particularly retail investors.
Finally, our evidence is strongly suggestive that political beliefs may affect asset prices themselves. Mutual funds are marginal, so their actions – which we show are influenced by politics – matter for asset prices.“
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