Link to publisher version (URL)
This paper shows empirically that the positive association between mutual fund ownership and firm value in China is mainly driven by the informed trading of mutual funds. Utilizing the unique short term feature of mutual fund holdings for the period from 2001 to 2010, we provide an informational link between a decomposed component of market-to-book ratio (firm specific valuation component) and mutual fund holdings. Specifically, we find that firms with a higher level of mutual fund ownership are associated with a higher specific value. Moreover, the positive association between the specific value of a firm and mutual fund ownership is more pronounced in firms with a higher level of specific information (or higher idiosyncratic volatility). We argue that in an emerging market such as China, mutual funds help to improve market efficiency by incorporating private information into stock prices through their informed trading although they are really a lack of incentive to monitor management.