Hedge Funds’ Favorite Stocks Were Hit Hardest in the Coronavirus Crash

Greater hedge fund ownership was linked to larger price drops as hedge funds dumped their shares, research shows.

Gabby Jones/Bloomberg

Gabby Jones/Bloomberg

Hedge funds likely contributed to steeper declines in the stocks they owned as equity markets sank in response to the coronavirus pandemic.

Greater hedge fund ownership of publicly traded companies was found to be correlated with worse first-quarter stock performance in a new study from academic researchers at the University of Hong Kong; the University of California, Berkeley; and the Chinese University of Hong Kong. The researchers estimated that stocks held by hedge funds fell by an additional 1.2 percent over two months, compared with stocks without hedge fund ownership.

The hedge funds themselves were likely the cause of the greater price declines, according to authors Wenzhi Ding, Ross Levine, Chen Lin, and Wensi Xie. They pointed to hedge funds’ use of leverage and quantitative trading strategies as possible causes of “fire sale effects” on stock prices.

“Thus, adverse news about Covid-10 case might induce stock prices to fall more among firms with a large, hedge fund blockholder,” they wrote.

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For the study, the researchers examined weekly stock price data on more than 6,000 companies worldwide for the period between January 2 and March 27, when the coronavirus spread globally, freezing economic activity in major countries including the U.S.

“The Covid-19 pandemic has triggered enormous — and heterogenous — stock price movement,” they wrote. “These developments raise the question, which firm characteristics make some companies more ‘immune’ to the Covid-19 shock than others?”

Hedge fund ownership was one characteristic they examined. Others included business exposure to the pandemic, corporate social responsibility, and the basic financial health of companies leading into 2020.

For example, the authors found that companies with more cash, less leverage, and greater access to credit performed better during the stock market’s plunge. Companies with high scores for corporate social responsibility — a metric tracking firm behavior on environmental, social, and governance issues — also experienced smaller stock price declines.

Meanwhile, the companies hardest hit in the sell-off included those with suppliers and customers in countries with large coronavirus outbreaks. Stocks also fell further at firms with “more entrenched” executives, the researchers found.

“These findings are consistent with the view that in assessing responses to the pandemic, markets positively priced flexibility, including mergers, acquisitions, and leadership changes,” the authors concluded.