Mutual Funds’ Returns from Providing Liquidity and Costs of Immediacy

We present evidence that some mutual funds systematically act as
contrarian traders, and earn returns in the stock market by providing
liquidity to investors that demand immediacy, while others systematically
realize costs of immediacy. On average, the mutual funds’ costs of
immediacy exceed their returns from providing liquidity. The funds with
outflows, flows that correlate with industry flows, high market beta funds,
and funds highly exposed to the momentum strategy suffer the most in
costs of immediacy. The mutual funds’ average underperformance can be
explained with their costs of immediacy. Finally, the funds’ historical costs
of immediacy predict their alphas.