Front-running of mutual fund fire-sales

- We construct a trading strategy which front-runs anticipated mutual fund fire-sales.
- The front-running strategy is based on publicly available information only.
- It generates average abnormal returns of 0.5% per month over the period 1990-2010.
- The profitability is mostly located in stocks whose size is below the mean NYSE size.
- The duration of the identifiable price pressure decreases over time.

We show that a real-time trading strategy which front-runs the anticipated forced sales by mutual funds experiencing extreme capital outflows generates an alpha of 0.5% per month during the 1990-2010 period. The abnormal return stems from selling pressure among stocks that are below the NYSE mean size and cannot be attributed to the arrival of public information. While the largest stocks also exhibit downward price pressure, their prices revert before the front-running strategy can detect it. The duration of the anticipated selling pressure has decreased from about a month in the 1990s to about two weeks in the most recent decade. Our results suggest that publicly available information of fund flows and holdings exposes mutual funds in distress to predatory trading.