Information-Intensity and Mutual Fund Performance

Story by Margie Peterson
Image by Shutterstock/Eamesbot

Ke Shen has another measure when you’re evaluating funds.

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When mutual fund managers are picking stocks for investment portfolios, they typically look at company fundamentals to predict a stock’s trajectory. But does factoring in corporate events—such as earnings announcements and mergers and acquisitions—aid in choosing stocks to improve a fund’s performance?

That was the question a team of researchers, including Ke Shen, Lehigh assistant professor of finance, sought to answer when looking at the value of mutual fund investments in information-intense stocks—those in which earnings announcements or other corporate events will cause the stock price to jump. Entitled “Information Intensity and Mutual Fund Performance,” the study was a collaboration between Shen and researchers from Washington State University, University of Maryland and University of Iowa. 

“Mutual fund managers will monitor corporate events and they will place their position before those events are likely to happen,” Shen said. “So, they are the ones betting on those information-intense stocks.” 

He cited reports about electric vehicles as an example of how managers mine news sources for nuggets on information-intense stocks. 

“Lately, electric vehicles are a hot topic,” Shen said. “The last couple of days I read news reports about how a lot of EV manufacturers started leveraging Tesla’s Supercharger network. Then, people started saying there would be extra revenue—profit—from the Tesla Supercharger network. Right there, you have a boost to Tesla’s share price. 

“Our study basically found that mutual funds that invest in a lot of information-intense stocks tend to perform better in the future, especially after controlling for their past performance,” Shen said.

“This information-intensity is basically an additional predictor for mutual fund investors to keep those mutual funds that possibly will perform better in the future.” 

Skill matters when mutual fund managers invest in information-intense stocks, Shen said. Using additional information on corporate events can contribute to higher returns but not for unskilled fund managers, the study found. 

Some investment managers use “channel checking” to help predict stock prices. For example, the Taiwanese company FoxConn is a major assembler of Apple products sold in the U.S. Fund managers will look at FoxConn’s activities to predict Apple sales. 

“They can get a sense of how many iPhones FoxConn will assemble for Apple and then they can predict how many iPhones Apple will sell,” Shen said. “Channel checking can be costly, though, if you have to hire people to do it.”

Shen pointed to Warren Buffett and other value investors who dig into a company’s fundamentals, such as their quarterly or annual filings, to identify stocks that are priced low compared to their intrinsic worth. 

“So, that’s one way to identify investment opportunities,” says Shen. 

Those methods have merit, but Shen and his research team hope their findings help people pick skilled mutual fund managers who know how to use information-intensity to find stocks that are underpriced compared to their earnings. 

“We basically want to pitch this information-intensity measure as an additional predictor for investors to choose a mutual fund,” he said. “So, in addition to looking at past performance, you can also review the information-intensity of the mutual fund portfolio and use this additional signal to choose mutual funds to invest in.” 

Why it Matters

Investors should consider their fund manager’s interest in and ability to correctly interpret information-intense stocks to get a larger return on their investments.