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Mechanism by which active funds make market efficient investigated with agent-based model

  • Takanobu Mizuta
  • Sadayuki Horie
Article

Abstract

Since active managed funds, in which a manager chooses stocks expected to rise in price, invest on the basis of the intrinsic fundamental value of companies, they discover the fundamental price and make market prices converge with the fundamental price (make a market efficient); therefore, they play an important role in allocating capital, which is an important function in capitalism. A previous empirical study showed active funds that trade infrequently, “patient” active funds, earn more. At first glance, what patient active funds trade infrequently seems inconsistent with making a market efficient. In this study, we modeled agents who reflect the characteristics of patient active funds that trade infrequently and “impatient” active funds that trade frequently. We succeeded in figuring out the mechanism of how patient and impatient funds impacted market prices and in proving that what patient active funds trade infrequently is not inconsistent with making a market efficient. Concretely, the simulation results indicated that patient active funds trade frequently only in the rare situation that a market became unstable and inefficient. These trades, occurring only at a necessary time, impact market prices and lead them to converge with the fundamental price. The results also indicated that patient active funds earn less not so much because of a more efficient market, but because the market is too inefficient, so changes in price formation due to trades of impatient active funds reduce the chance that patient active funds will realize profit.

Keywords

Agent-based model Multi-agent simulation Artificial market simulation Active managed fund Passive managed fund Index fund Market efficiency Price discovery function 

JEL Classification

G12 G14 G17 G19 

Notes

Compliance with ethical standards

Conflict of interest

On behalf of all authors, the corresponding author states that there is no conflict of interest.

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Copyright information

© Japan Association for Evolutionary Economics 2018

Authors and Affiliations

  1. 1.SPARX Asset Management Co., Ltd.TokyoJapan
  2. 2.School of Business AdministrationOsaka University of EconomicsOsakaJapan

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