Institutional flows and equity style diversification

John Gallo, Chanwit Phengpis and Peggy Swanson

Applied Financial Economics, 2008, vol. 18, issue 18, 1441-1450

Abstract: This article examines the composition of style-diversified portfolios and the influence of institutional trading on style performance over the period 1979 to 2004. We employ a methodology to identify possible cointegrating relationships among four equity styles and to determine styles necessary to a well-diversified portfolio. Two seemingly dissimilar styles, large value and small growth, are cointegrated and hence, redundant diversifiers. We show an optimized three-style portfolio that omits one cointegrated style, improves performance and lowers market risk, demonstrating the importance of allocation to style diversification. We also find evidence the trading behaviour of institutional investors explains, in part, the relationship among and between the cointegrated and the independent styles.

Date: 2008
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DOI: 10.1080/09603100701857914

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