Are Busy Institutional Investors Effective Monitors?

Project: Research

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Researcher(s)

Description

This paper investigates whether busy institutional investors with many block-holdings are still effective as monitors. Prior studies document that institutional cross-holdings have dramatically increased over time and reached a remarkably high level (Matvos and Ostrovsky (2007); Harford, Jenter, and Li (forthcoming)). Whereas institutional investors play active monitoring roles in the literature, holding blocks of stock in many different firms from many different industries raises a concern of their monitoring effectiveness. Would they encounter any limited attention problem when they act as monitors for too many firms? Or as an alternative, could they be more effective monitors by learning effects from their monitoring experiences.We choose forced CEO turnovers as the setting to answer our question. Using a sample of US firms from 1993 through 2006, we examine whether the busyness of institutions matters for the likelihood of forced management turnovers. We focus on firms’ largest institutional shareholders, defining their busyness as holding block shares in many different firms or in many different industries relative to their total equity investment. We also investigate whether the effects of institutional busyness on forced CEO turnovers vary depending on legal types and investment horizons of the institutional investors. Further we examine how the busyness of the firms’ largest institutional blockholders is valued when firms announce forced CEO turnovers. In addition, we investigate how the institutional busyness is related to firm’s long-run performance following the forced management turnovers.Our preliminary results show that the busyness of institutional investors matters for their monitoring. Specifically, we find that the forced CEO turnover sensitivity to performance is actually higher when the firm’s largest institutional blockholder is busy with many blockholdings in other firms, suggesting that institutional busyness enhances institution’s monitoring ability. The positive relationships between the CEO turnover sensitivity to performance and the institutional busyness are more pronounced for independent and dedicated institutional investors.Moreover we show that the busyness effects on forced CEO turnovers exist only when the institutions hold block shares in other firms within the same industry, implying the existence of learning effects along their monitoring process. The institutional busyness is favorably greeted by the stock market when firms announce forced CEO turnovers if the institution is a long-term investor. Post-CEO-turnover-performance also improves more when firm’s largest blockholder is busy, further supporting the monitoring effectiveness of busy institutional investors.

Detail(s)

Project number9041711
Grant typeGRF
StatusFinished
Effective start/end date1/01/1215/10/14