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Portfolio Managers Are Good at Buying but Stink at Selling
New research shows that managers would earn better returns if they sold the assets in their portfolios at random.
Portfolio managers are great at finding assets to buy — but come up short in deciding when to sell, new research shows.
A paper published last month by academics from the University of Chicago, Carnegie Mellon University, investment data firm Inalytics, and the Massachusetts Institute of Technology shows that institutional investors’ decisions to sell assets suffer because they tend to spend more time on the buying process than the selling process.
Earlier research has shown that individual investors tend to be driven by different psychological processes when they buy and sell securities, according to the paper. This paper is one of the first to show the phenomenon in portfolio managers, however.
The paper, entitled “Selling Fast and Buying Slow: Heuristics and Trading Performance of Institutional Investors,” analyzed the daily holdings and trades of institutional portfolio managers from 2000 to 2016. Authors Klakow Akepanidtaworn, Rick Di Mascio, Alex Imas, and Lawrence Schmidt evaluated 783 portfolios, which averaged in size of approximately $573 million in assets under management. A total of 4.4 million trades were analyzed, according to the paper.
“We document a striking pattern: while the investors display clear skill in buying, their selling decisions underperform substantially,” according to the researchers. The researchers showed that portfolio managers' selling decisions underperformed a randomized control group.
This is especially true when it comes to assets that post “extreme returns,” both positive and negative. Portfolio managers decide to sell these assets at a 50 percent higher rate than assets that simply over- or under-performed, the paper shows.
“This strategy is a mistake, resulting in substantial losses relative to randomly selling assets to raise the same amount of money,” according to the paper.
According to the researchers, it does not seem like portfolio managers lack selling skills altogether, however. In fact, the researchers were able to show that during earnings season, when information from companies is widely available, portfolio managers' selling decisions outperformed a control group by between 90 and 120 basis points (0.9 percent and 1.20 percent) per day. At the same time, the researchers showed that there were no major differences between buying during earnings season and outside of it.
In other words, when portfolio managers were focused on company-specific information, they were able to improve their selling performance.
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So why do portfolio managers struggle with the timing of when to sell assets? While the researchers said they do not have direct evidence for these reasons, they were able to provide an explanation after they interviewed several portfolio managers.
These managers, according to the paper, view buying and selling as two distinctive processes, and as a result, do not allocate the same amount of time or energy to each.
As one portfolio manager told the researchers: “Selling is simply a cash-raising exercise for the next buying idea.”