Do Institutional Investors Know Banks Better? Evidence from Institutional Trading Surrounding the 2008 Financial Crisis

Abstract

The economic damage caused by the 2008 financial crisis is unprecedented. It caught many market participants by surprise. In this paper, we provide evidence that institutional investors have private information about the impendent crisis. In particular, institutional investors reduce their investment in bank holding companies at least 4 quarters before the crisis and the reduction is more pronounced in bank holding companies with high exposure to securitization. Furthermore, grey institutions (i.e. banks and insurance companies) appear to have more information about BHCs’ risk exposure to securitization than do independent institutions (e.g. investment companies and public pension funds) as they shy away from BHCs that issuing riskier securitization deals before the crisis. Lastly, we find the trading of grey institutions is significantly related BHCs’ securitization chargeoffs and can predict securitizing BHCs’ stock performance around Lehman bankruptcy.