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Loss-Driven Activism

Published online by Cambridge University Press:  23 February 2024

Marco Elia*
Affiliation:
Queensland University of Technology School of Economics and Finance
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Abstract

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I show that hedge funds react to unrealized losses on their passive positions by engaging with the management. The hedge fund managers’ psychological response is consistent with cognitive dissonance: They blame the firms’ management and switch to activism. The loss, which is hedge fund-investment specific, is distinct from economic factors such as the firm’s industry-adjusted performance. Loss-driven activism is more likely to be unfocused on specific issues and results in worse firm performance. This study shows that an overlooked consequence of unrealized losses is to trigger an active engagement with the firm.

Type
Research Article
Copyright
© Crown Copyright – Queensland University of Technology, 2024. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Footnotes

I would like to thank my dissertation committee members, Naveen Daniel, Daniel Dorn, Kose John, Greg Nini, and Ralph Walkling for the valuable suggestions and support. I am grateful for helpful comments from an anonymous referee, Ran Duchin (the editor), Ettore Croci, Eli Fich, Vyacheslav (Slava) Fos, Michelle Lowry, Ludovic Phalippou, Silvina Rubio, Emil Siriwardane, David Solomon (a referee), Laura Starks as well as seminar participants at Drexel University, Queensland University of Technology, Cornerstone Research, University of Technology Sydney, the 2017 Financial Management Association European Conference, the 2017 European Finance Association Conference Doctoral Tutorial, the 2017 Financial Management Association Doctoral Consortium and Special PhD Student Paper Presentation Sessions, the 2018 American Finance Association Annual Meeting Ph.D. Poster Session, the 2018 FIRN Annual Conference, the 2019 UBS The Future of Investment Management Conference, the 2019 China International Conference in Finance Annual Meeting, and the 2019 American Finance Association Annual Meeting. An earlier version of this paper was titled “What Causes Passive Hedge Funds to Become Activists?”

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