In the model developed, the institutional investor is sometimes able to acquire private information about the quality of a firm's management. The relationship investor has no such information. However, a relationship investor can create value through activism.
The connection between the two develops because of the links between the two types of investor behaviour. For example, the institutional investor who wants to maximise profits wants prices to be uninformative. However, such prices might put the relationship investor off activism, so lowering the value of the portfolio.
At the same time, the relationship investor suffers from never being sure whether any given company has poor management and therefore needs a dose of activism.
Analysis of the interaction between the two types of strategic investor produces several testable implications. Among these are:
- the likelihood of management shake-ups and governance changes is higher after institutional selling
- institutional investor herding will be concentrated on the sell side of the market
- the likelihood of management shake-ups is not only affected by stock price drops but is also correlated with trading volume
- the price effect of institutional share dumping depends on the size of the institution's pre-trade portfolio positions, and institutional order flows will exhibit asymmetric time-series correlations.
The analysis shows that voice and exit, which may be alternatives for individual investors, are highly complementary when investors are taken together. Exiting investors try to provoke other activist investors into exercising voice and activist investors look to the trading patterns of exiting investors as a guide for their activity.
Source: Crushed by a rational stampede: strategic share dumping and shareholder insurrections
Mukarram Attari, Suman Banerjee and Thomas H Noe
Journal of Financial Economics 79, 2006
Review by Roger Trapp