Constrained Portfolios and Asset Prices

Abstract

In this Thesis, I focus on analyzing constrained investors' trading behavior and its asset pricing implications. In the first Chapter, we focus on analyzing the effect of investors' expectations on market dynamics. As constrained investors have time-varying demand for high beta stocks, we connect their expectations to the beta anomaly. We introduce a heterogeneous expectations model and build a mutual fund-level measure of market beliefs. We show that the beta anomaly is stronger for stocks purchased by over-optimistic investors. We finally extend our framework to study the implications of investors' momentum expectations. The second Chapter studies mutual funds' trading behavior. In particular, consistently with practitioners, we introduce the concept of "core" vs "satellite" holdings and we characterize positions depending on their longevity and interim return in a fund's portfolio. We show that core positions are relatively protected from selling in times of distress: core positions incur less downward contemporaneous price pressure as a result of outflows and are relatively more liquid. In the last Chapter we study the intersection of banking and asset management activities. We document significant investment distortions in bank-affiliated funds' portfolios stemming from bank's core businesses activities (lending and underwriting). We also show a bias of bank mutual funds towards securities issued by institutions belonging to the same group. Such investment distortions are incompatible with bank affiliated funds holding superior information on firms that are banks' client, but rather support a conflict of interest interpretation.