Impact of firm reputation and visibility on portfolio manager decision making

Abstract

I develop and test theory about the impact of heuristics on the composition of actively managed equity portfolios. Active equity portfolio managers are charged with the task of outperforming their peers and a benchmark index. However, on average, they fail to do so, despite the ability (and expectation) to make decisions deviating from the portfolio composition of their benchmark. While we know that people generally rely on heuristics at the individual level when making economic decisions, it is not yet clear to what extent that these findings extend to portfolio managers with a sophisticated understanding of financial concepts and resources to acquire and process information. I argue that, despite these advantages, portfolio managers will systematically prefer certain firms, suggesting a reliance on heuristics based on firms’ social approval assets. Using the holdings of active equity portfolios, I examine the how high reputation, firm visibility, and high reputation for capital return (a construct that I introduce) impact portfolio composition decisions, finding robust support for high reputation for capital return and multiple conditional relationships.