Institutional stock ownership and firm innovation: Evidence from China

Abstract

This paper investigates different institutions’ ability to influence firm innovation in the largest emerging market, China. We show that mutual funds’ holdings significantly increase firm innovation, but grey institutional holdings (including insurance companies and pension funds) and Qualified Foreign Institutional Investor (QFII) holdings have less or no significant impact on innovations. We suggest this is due to the high equity holdings and less business connections of mutual funds on (with) portfolio firms in comparison with other institutional investors. Our results are robust after applying different measures of firm innovation and controlling for possible endogeneity. This study sheds new light on the effect of different institutional ownerships on firm innovation in emerging economies. Our results provide further evidence that in comparison with more developed markets, institutional investors in emerging markets can govern invested firms through “threat of exit” even when holding a small proportion of shares in the firms.