Does common ownership of stocks in the same industry reduce competition? That is the central question that an emerging body of academic research is seeking to address. While this research is still in its early stages and the evidence is inconclusive, the policy reactions it might elicit could be significant for investors.

Some proposals have suggested limiting an asset manager's holdings to one stock in each industry where its ownership stake in a firm exceeds 1%, which would effectively ban large index funds, and preventing asset managers that own two or more competitors from exercising their voting rights. (Morningstar's Aron Szapiro explains why these policy recommendations are problematic in his article, "Would Policymakers Target Index Funds?") But the underlying argument that common ownership leads to less competition relies on some misguided assumptions.

At the heart of this argument is the idea that shareholders who own multiple firms in the same industry (common owners) have an incentive to maximize industry profits, rather than individual firm profits. So, they behave in ways that concentrated investors wouldn't, by not pressuring managers to compete aggressively, or otherwise using their influence to discourage competition and boost industry profits. Jose Azar (an economist at IESE Business School) and his colleagues developed this argument in two studies (1, 2) that found that an increase in common ownership in the airline and banking industries was associated with higher prices for the services those firms offered.