Estimation of fund managers’ herding behavior by trinomial distribution method: an empirical investigation of equity mutual fund in Taiwan
Authors: Su-Lien Lu, Si-In Lee
Journal: Chiao Da Management Review. Dec. 2008, 28(2): 41-72.
Keywords: Herding behavior; Trinomial distribution; Binomial distribution
Abstract:
The purpose of this paper is to examine the herding behavior of fund managers by using a trinomial distribution method, extended from the
traditional binomial distribution one. The trinomial distribution method considers three trade directions, namely buy, sell and hold. However,
previous studies often neglected the trade direction of hold. The empirical results show that the herding behavior is closely related to the
firm size, stock returns and mutual fund performance. First, we find significant herding behavior of equity mutual fund managers in Taiwan.
Furthermore, we find that the binomial distribution may overestimate the herding behavior owing to ignoring the trade direction - hold. Second,
the detected level of herding is higher for the smallest size stock, as was found by Wermers (1999). Third, buy-herding is strong in high
current-return stocks and sell-herding is strong in low current-return stocks. Therefore managers tend to adopt positive-feedback strategy to
buy winners and sell losers. Fourth, managers tend to herd in funds with worse performance based on reputation, as was found by Scharfstein
and Stein (1990). Finally, the herding behaviors of fund managers may stabilize the stock market for a long time.