DP8969 | Local Bias and Stock Market Conditions

Publication Date

23/05/2012

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Abstract

We show that the local bias in U.S. mutual fund portfolios varies significantly over time and is more pronounced at times of heightened market uncertainty, such as during financial crises. Similarly, the local bias is less pronounced in periods when market sentiment is strong. These results do not depend on past fund performance or fund inflows during good times. Additionally, we do not find that fund managers earn superior returns on local stocks during periods of heightened market uncertainty. Overall, we conclude that informational advantages or scale economies are unlikely to be important factors in explaining the dependence of local bias on market conditions, and that our evidence is more consistent with a behavioral explanation whereby changes in market conditions affect the preference for local stocks of ambiguity averse investors.