“Smart Money”: Institutional Investors in Online Crowdfunding

The “crowd” in online crowdfunding is no longer just comprised of retail investors; in fact, debt-based crowdfunding or peer-to-peer lending has long attracted the interest of institutional investors. Given their expertise, institutional investors are often referred to as “smart money” in traditional financial markets. It is not clear however how they may behave in this nascent market, and more importantly how their behaviors may impact the decisions of retail investors. Using data from a leading peer-to-peer lending platform, we first characterize institutional investor behaviors in this market; then, exploiting a platform policy change on the identity of institutional investors as a natural experiment, and we how the mere “title” of an institutional investor affects the behavior of retail investors. We find that although institutional investors indeed behave differently in terms of portfolio size and diversification strategies, overall their portfolios do not necessarily outperform those of retail investors. More interestingly, rather than following the lead of institutional investors as the traditional herding literature would suggest, retail investors are in fact less likely to participate in a loan, and tend to invest less, when institutional investors participate. Given the insignificant difference in investment returns between retail and institutional investors, such avoidance behavior seems largely unjustified and could have implications for market manipulation. Thus, our findings have important implications for the design and oversight of crowdfunding markets given the symbiotic relationship between heterogeneous investors.