As mutual funds have become popular with individual investors, the institutions that manage these funds have grown dramatically. Along with the benefit of offering individual investors inexpensive portfolio diversification and engagement in corporate governance, there is mounting concern that the growth of institutional investors has an attendant cost. The specific concern is that, as institutional investors increasingly own shares in most firms within each industry, such “common ownership” will lead the firms within these industries to compete less aggressively in product markets. Stated simply, the fear is that large institutional investors are burgeoning monopolists and increased common ownership is ushering in a new era of anticompetitive behavior similar to that observed in the U.S. during the late 19th century.
Initial evidence from the banking and airline industries appears to validate the concern. The two papers discussing this evidence conclude that increased common ownership has led to consumers paying higher deposit service fees and interest rates on loans and higher airline-ticket prices. While the authors of these papers stop short of accusing institutional investors of arranging clandestine meetings with banking or airline executives to coordinate reducing competition, the authors argue that the end result of increased common ownership is the same as if the institutions were doing so, i.e., higher prices for consumers and, hence, higher profits for banks and airlines.
The robustness of the findings in the initial papers is being directly investigated by subsequent work specific to the airline and banking industries. However, Andrew Koch, Marios Panayides, and I take a different approach in our paper. Motivated by the premise in the initial papers that common ownership leads to reduced competition and higher industry profits and that this occurs organically without any need for the institutions or their portfolio firms to obscure the profitability increases, we examine the relation between common ownership and industry profitability directly. Our analysis is designed to be as comprehensive as possible in terms of how rival firms are identified for each industry, how common ownership is measured, how reduced competition is manifested in industry outcomes, and how tests are structured to identify economic relations. We find that common ownership is not robustly and positively related to industry profitability. We also find that common ownership does not apparently increase output prices or reduce non-price competition in firms’ advertising or capacity decisions.
We go to considerable lengths to determine if our findings might be attributable to shortcomings in our empirical tests. We exploit mergers among large institutional investors as sources of plausibly exogenous variation in common ownership and find little evidence of a robust causal effect of common ownership on industry profitability or non-price competition proxies. We repeat our tests in subsamples of industries where coordination via common ownership is expected to be facilitated, i.e., concentrated industries, industries in which firms were prosecuted for collusion during the sample period, and industries without firms that have less incentive to coordinate, namely, large private, family, or dual-class firms. Across these analyses, we find no robust evidence of a relation between common ownership and industry profitability. In addition to selecting ex ante subsamples of industries for analysis, we also generate industry-specific estimates. We estimate average and median effects that are indistinguishable from zero; however, the bounds around the estimates are tight. We can, therefore, statistically reject even modestly-sized economic effects.
Taken together, our results are inconsistent with increased common ownership generally resulting in reduced competition. Our evidence indicates that the results of single-industry studies concluding that increased common ownership decreased competition in the airline and banking industries can not be applied generally to other a industries.
Our findings are informative for both academic researchers and policymakers in the debate regarding whether and how to address increased common ownership. The stakes are quite high in this debate, and contributors to it have labelled this issue “the greatest anticompetitive threat of our time.” The growth in and effects of common ownership certainly bear watching. With the obvious caveat that our results are conditional on the extent of common ownership observed over our sample period and, thus, may not extrapolate to substantially higher levels of common ownership, we conclude that at this point it would be premature to establish policies limiting the extent to which institutional shareholders can diversify. Doing so would raise the costs of diversification for individual investors, lower the extent to which they diversify, and increase the risk of participating in the stock market without increasing expected returns. Further, limiting common ownership would not lead to consumers paying lower prices in general.
This post comes to us from Professor Andrew Koch at the University of Pittsburgh, Professor Marios A. Panayides at the University of Cyprus, and Professor Shawn Thomas at the University of Pittsburgh’s Katz Graduate School of Business. It is based on their recent paper, “Common Ownership and Competition in Product Markets,” available here.