Leveling the Playing Field: Financial Regulation and Disappearing Local Bias of Institutional Investors
Abstract
We examine whether exogenous shocks to firms' information environments generated by Regulation Fair Disclosure (Reg FD) and Sarbanes-Oxley Act (SOX) influenced the degree of local bias of institutional investors. Our main conjecture is that as financial regulation makes the information environment more competitive, the local informational advantage of institutional investors declines and their preferences for local stocks weaken. Consistent with this conjecture, we find that following regulatory changes, the local bias of institutional investors declines by a half and ownership becomes more diffused geographically. These shifts in ownership patterns are more salient among firms that had more opaque information environments prior to the regulation changes. Further, the performance of the local component of institutional portfolios worsens considerably and, at the aggregate market-level, the degree of informed trading attributed to local investors declines. Taken together, these findings indicate that Reg FD and SOX "leveled the playing field" and eliminated the local informational advantage of institutional investors.