The effect of mutual fund investment style on the accrual and book-to-market anomalies

Abstract

This paper shows that institutional investor investment style affects the association between accruals and future returns and book-to-market ratio and future returns. Since both the accrual and book-to-market anomalies generate positive future returns to a trading strategy that is consistent with a value investment style, I predict and find that the accrual effect and the book-to-market effect are lower when the percentage of shares held by value mutual funds is high. These findings are consistent with value mutual funds mitigating mispricing. Additionally, these effects are unrelated to total or growth mutual fund ownership. I also find that changes in value mutual fund holdings are positively associated with the book-to-market ratio, consistent with value funds trading to take advantage of the book-to-market effect, while the results are inconsistent with growth funds trading to take advantage of the anomaly. These results suggest that institutional investor investment style at the fund level has an effect on the accrual and book-to-market ratio anomalies.