Mutual fund corporate culture and performance

In this paper we test if a mutual fund's own corporate culture predicts fund performance. To do this we use Morningstar's corporate culture ratings for mutual funds and then examine the ability of these corporate culture ratings to predict risk-adjusted performance of domestic equity funds over the period 2005–2010. Using methods that are robust to survivorship bias, we find there is little significant evidence that corporate culture predicts better fund performance. Indeed, we find that no individual component of the Morningstar stewardship rating including board quality, fees, manager incentives and regulatory issues is able to consistently predict fund performance.     

Mutual fund performance and fund prospectus clarity

We conduct a cross-sectional examination of the writing clarity (readability) of mutual fund prospectuses from 20 major US mutual fund families. We focus on the language in the objective/strategy and principal risks sections, using Flesch scores and word counts to measure writing clarity. There is considerable variation in readability among funds and fund families. Flesch readability scores do not vary across fund objective, but within funds, risk discussions are more clear than are discussions of objective/strategy. Generally, the readability of a fund's risk discussion is lower for load funds than no-load funds, and readability increases with fund size and beta and decreases with raw and risk-adjusted three-year returns.     

Performance evaluation and self-designated benchmark indexes in the mutual fund industry

Almost one-third of actively managed, diversified U.S. equity mutual funds specify a size and value/growth benchmark index in the fund prospectus that does not match the fund's actual style. Nevertheless, these “mismatched” benchmarks matter to fund investors. Performance relative to the specified benchmark is a significant determinant of a fund's subsequent cash inflows, even controlling for performance measures that better capture the fund's style. These incremental flows appear unlikely to be rational responses to abnormal returns. The evidence is consistent with the notion that mismatched self-designated benchmarks result from strategic fund behavior driven by the incentive to improve flows.     

AN EMPIRICAL ANALYSIS OF MUTUAL FUND EXPENSES

Mutual fund investors are subjected to many fees and expenses related to both the management of the fund assets and the sale and distribution of the fund's shares. In recent years these expenses have increased as a percentage of assets. The preoccupation of mutual fund investors with using performance evaluation as a selection criterion is misguided because of the volatility of investment returns. Whether the fund's performance is due to superior management or just good luck is difficult to determine. On the other hand, mutual fund expenses are stable. As such, the mutual fund investor should pursue a policy of choosing funds with low expenses. In this paper we conduct an empirical analysis of these expenses. The results of our analysis of equity funds suggest that expense-conscious investors should look at the fund size, age, turnover ratio, cash ratio, and existence of a 12b-1 fee as key determinants of expenses. Our analysis of bond funds suggests that the key factors are the fund's sales charge, weighted average maturity, size, and existence of a 12b-1 fee.     

Mutual fund flows and investor returns: An empirical examination of fund investor timing ability

We examine the timing ability of mutual fund investors using cash flow data at the individual fund level. Over 1991–2004 equity fund investor timing decisions reduce fund investor average returns by 1.56% annually. Underperformance due to poor timing is greater in load funds and funds with relatively large risk-adjusted returns. In particular, the magnitude of investor underperformance due to poor timing largely offsets the risk-adjusted alpha gains offered by good-performing funds. Investors in both actively managed funds and index funds exhibit poor investment timing. We demonstrate that our empirical results are consistent with investor return-chasing behavior.     

Who Charges More: Hedge Funds or Mutual Funds?*

Explicit mutual fund fees are typically less than 1% of the assets under management. By comparison, the typical hedge fund charges a base fee of 2% plus a performance fee equal to 20% of net profits. Thus, hedge funds appear to charge far more for even comparable performance—unless one takes account of the following:

• ? For most mutual funds, a very high percentage of performance is driven by its passive exposure to the market, even though the fee is applied to the total fund.
• ? Many hedge funds are designed to provide returns that are completely independent of market performance.

Using these two assumptions, the author provides a simple example that shows that a representative mutual fund's performance can be replicated by combining an index fund, which represents the mutual fund's passive component, with a hedge fund, representing the mutual fund's active component. When analyzed in this way, the fee of the combined fund turns out to be remarkably close to the actual fee of the mutual fund. This in turn suggests that the implicit fee for the mutual fund's small active component is comparable to the fees of the hedge fund.     

On the concentration of mutual fund portfolio holdings: Evidence from Taiwan

This paper tests the alternative hypotheses of investment selection skills versus overconfidence of equity mutual funds managers in Taiwan. We find that fund holdings’ concentration levels are high and positively related to funds’ risk-adjusted returns in tranquil market periods; however, the concentration levels are low and more negatively related to risk-adjusted returns in turmoil market periods. The time varying concentration-performance relation is not driven by fund size. Our finding implies that fund managers have superior investment selection skills when the market is less volatile, but they exhibit overconfidence when the market is in turmoil, suggesting an investment strategy of shifting from concentrated funds to more broadly diversified funds when market condition becomes worse.     

Why mutual funds “underperform”

I propose a parsimonious model that reproduces the negative risk-adjusted performance of actively managed equity mutual funds. In the model, a fund manager can generate state-dependent active returns at a disutility. Negative expected performance and mutual fund investing simultaneously arise in equilibrium because the active return the fund manager generates covaries positively with a component of the pricing kernel that the performance measure omits, consistent with recent empirical evidence. Using data on U.S. funds, I also document new empirical evidence consistent with the model's cross-sectional implications.     

Why do fund managers increase risk?

This paper examines the relationship between the increase in fund risk and subsequent cash flows. We attempt to test the hypothesis that an increase in fund risk actually increases the net flows of equity funds, which is a basic assumption of risk shifting. We find that a change in fund risk has a positive and convex relationship with the fund's net flows. The effect of risk changes on net flows is a natural consequence of its effects on inflows and outflows. This paper's empirical results are robust to return frequency, fund age, and fund size. Our findings create incentives for managers to shift risk as documented in the mutual fund literature.     

Prudent man or agency problem? On the performance of insurance mutual funds

Active equity mutual funds managed by insurance companies underperform peer funds by over 1% per year. There is no evidence that insurance funds make less risky investments; instead they have lower risk-adjusted returns and their fund flows are less sensitive to performance when they perform poorly. Across insurance funds, those with heavy advertising, directly established by insurers or using parent firms' brandnames, and those whose managers simultaneously manage substantial non-mutual-fund assets, are more likely to underperform. We conclude that insurers' efforts to cross-sell mutual funds aggravate agency problems that erode fund performance.     

Life-cycle funds: Much Ado about Nothing?

The core idea of life-cycle funds or target-date funds is to decrease the fund's equity exposure and conversely increase its bond exposure towards the fund's target date. Such funds have been gaining significant market share and were recently set as default choice of asset allocation in numerous defined contribution schemes or related old-age provision products in several countries. Hence, an assessment of life-cycle funds’ risk-return profiles – that is, the probability distribution of returns – is essential for sustainable financial planning of a large group of investors. This paper studies the risk-return profile of life-cycle funds in particular compared to simple balanced or lifestyle funds that apply a constant equity portion throughout the fund's term instead. In a Black–Scholes model, we derive balanced funds that reproduce the risk-return profile of an arbitrary life-cycle fund for single and regular contributions. We then analyze the accuracy of our results under more complex asset models with stochastic interest rates, stochastic equity volatility and jumps. We further show that frequently used ‘rule of thumb approximations’ that only take into account the life-cycle fund's average equity portion are not suitable to approximate a life-cycle fund's risk-return profile. Our results on the one hand facilitate sustainable financial planning and on the other hand challenge the very existence of life-cycle funds since appropriately calibrated balanced funds can offer a similar (often dominating) risk-return profile.     

Who incentivizes the mutual fund manager,new or old shareholders?

This study tests whether mutual fund shareholders continue to trade in response to fund returns after they make their initial investment in fund shares. It decomposes the relationship between fund returns and shareholder flow in a large, proprietary panel of all shareholder transactions in one midsize no-load mutual fund family. Results show that both new and old shareholders buy shares during periods of good returns; however, shareholder outflow is essentially unrelated to fund returns. This lack of a return-sell relationship is not driven by locked-in pension assets, shareholders’ ignorance of ongoing fund returns, or embedded capital gains. However, there is evidence that exchanges between equity funds in the family are related more strongly to returns of the destination fund than to returns of the origination fund. This may indicate that flow between equity mutual funds is driven by shareholders buying new funds rather than selling old funds. Supermarket shareholders are smart insofar as they exchange into funds that subsequently outperform their prior funds during their individual holding periods.     

Investment manager characteristics, strategy, top management changes and fund performance

The present study examines the performance of Australian investment management organisations with direct reference to their specific characteristics and strategies employed. Using a unique information source, performance is evaluated for actively managed institutional balanced funds, Australian share funds and Australian bond funds. For balanced mandates, performance is evaluated with respect to the investment strategy adopted, the experience and qualifications held by investment professionals, and the tenure of the key investment professionals. The present study examines the performance of top management and the impact on returns when turnover arises. The research documents that a significant number of active Australian equity managers earned superior risk-adjusted returns in the period, however, active managers perform in line with market indices for balanced funds and Australian bond funds. A number of manager characteristics are also found to predict risk-adjusted returns, systematic risk and investment expenses for balanced funds.     

City size and fund performance

The literature predicts that the average skill level and productivity are higher in larger cities. Prior studies use workers’ wage or education differentials to indirectly link city size and output. This article relates city size and productivity directly, using performance data of U.S. equity mutual funds. On average, funds in financial centers perform better than other funds in terms of both gross and risk-adjusted returns, but this difference is driven only by more experienced managers. Among funds in financial centers there is strong evidence of a positive relation between performance and manager experience in a given city, especially among New York funds. More importantly, we observe performance improvements of the same manager at the same fund in financial centers but not elsewhere. Our tests provide novel evidence of knowledge spillovers and learning in cities.     

A statistically robust decomposition of mutual fund performance

Previous decompositions of risk-adjusted mutual fund performance might deliver biased results. In this paper, we provide new reliable insights on the drivers of mutual fund performance by decomposing risk-adjusted performance of U.S. equity mutual funds using the Generalized Calendar Time regression model. According to our results, out of all previously considered fund characteristics, only the negative effect of lagged fund size and the positive effects of lagged performance and lagged family size remain highly significant. Our analysis further suggests that much of the variation in previous empirical results can be attributed to methodological issues.     

International evidence on ethical mutual fund performance and investment style

Using an international database containing 103 German, UK and US ethical mutual funds we review and extend previous research on ethical mutual fund performance. By applying a Carhart multi-factor model [Carhart, Journal of Finance 57 (1997) 57] we overcome the benchmark problem most prior ethical studies suffered from. After controlling for investment style, we find no evidence of significant differences in risk-adjusted returns between ethical and conventional funds for the 1990–2001 period. Our results also suggest that ethical mutual funds underwent a catching up phase, before delivering financial returns similar to those of conventional mutual funds. Finally, our performance estimates are robust to the inclusion of ethical indexes, which, surprisingly, are not incrementally capable of explaining ethical mutual fund return variation.     

Persistence in Portuguese mutual fund performance

Recent evidence suggests that future performance is predictable from past performance, that is, funds with superior (inferior) performance in the past are likely to remain good (bad) performers in the future. This research addresses the persistence of mutual fund performance in a European regional market (the Portuguese equity fund market). Some of the problems in evaluating fund persistence are identified in the context of limited sample size and using the peer group median as a benchmark for contingency table analysis of performance persistence. The criteria for assessing performance persistence based on the contingency table methodology of repeated winners and losers are presented in terms of significance statistics, adjusted for small sample bias. The adjustments are accomplished through the Yates continuity correction and Fisher's exact p-value. The appropriateness of each criteria under different circumstances is also discussed. The analysis of the returns of all Portuguese domestic equity funds, since a representative number was established, shows some performance persistence (on a quarterly basis). The persistence, however, is reduced when the returns are controlled for the various dimensions of risk. Significant risk persistence has been documented. Furthermore, for more or less frequent intervals of measurement, the industry persistence is rejected, although individual funds exhibit superior/inferior performance.     

Mutual Funds and Stock and Bond Market Stability

The unprecedented growth of mutual funds has raised questions about the impact of mutual fund flows on stock and bond prices. Many believe that the equity bull market of the 1990s is attributable to the huge flows of funds into equity mutual funds during this period and that a withdrawal of those funds could send stock prices plummeting. This article investigates the relationship between aggregate monthly mutual fund flows (sales, redemptions, and net sales) and stock and bond monthly returns during a 30-year period beginning January 1961 utilizing Granger causality and instrumental variables analysis. With one exception, flows into stock and bond funds have not affected either stock and bond returns. The exception is 1971–1981, when widespread redemptions from equity mutual funds significantly depressed stock returns. In contrast, the magnitude of flows into both stock and bond funds are affected significantly by stock and bond returns.     

The 52-week high,momentum, and predicting mutual fund returns

George and Hwang (J Finance 59:2145–2176, 2004) have shown that the 52-week high share price carries significant predictive ability for individual stock returns, dominating other common momentum-based trading strategies. Based upon their results and other methods, this paper examines and compares the performance of three momentum trading strategies for mutual funds, including an analogous 1-year high measure for the net asset value of mutual fund shares. Strategies based on prior extreme returns and on fund exposure to stock return momentum are also examined. Results show that all three measures have significant, independent, predictive ability for fund returns. Further, each produces a distinctive pattern in momentum profits, whether measured in raw or risk-adjusted returns, with profits from momentum loading being the least transitory. Nearness to the 1-year high and recent extreme returns are significant predictors of fund monthly cash flows, whereas fund momentum loading is not.     

The hazards of mutual fund underperformance: A Cox regression analysis

This paper investigates the process determining mutual funds' conditional probability of closure, i.e., their hazard function. Using a nonparametric approach to estimate the effects of a fund's age on its hazard rate, we find a distinctly non-linear, inverse U-shaped pattern in the relationship. Hence, young and very old funds are least likely to be closed down. A fund's relative performance and (less significantly) the level of return in the sector in which the fund operates are also identified as important factors in the closure decision. Results from semiparametric Cox regressions are compared with those from the discrete choice probit model used by Brown and Goetzmann [Brown, S.J., Goetzmann, W., 1995. Performance persistence, Journal of Finance. Vol. 50, pp. 679–698]. Finally, we provide a complete summary of the fund attrition process by estimating the survivor function, indicating the proportion of funds that survive up to a given age, and we identify the effect of fund attrition on standard measures of persistence of fund performance.