This article presents some new results on an unexplored dataset on hedge fund performance. The results indicate that hedge funds follow strategies that are dramatically different from mutual funds, and support the claim that these strategies are highly dynamic. The article finds five dominant investment styles in hedge funds, whichwhenadded to Sharpe's (1992) asset class factor model can provide an integrated framework for style analysis of both buy-and-hold and dynamic trading strategies

We use a new database to perform a comprehensive analysis of the mutual fund industry. We find that funds hold stocks that outperform the market by 1.3 percent per year, but their net returns underperform by one percent. Of the 2.3 percent difference between these results, 0.7 percent is due to the underperformance of nonstock holdings, whereas 1.6 percent is due to expenses and transactions costs. Thus, funds pick stocks well enough to cover their costs. Also, high-turnover funds beat the Vanguard Index 500 fund on a net return basis. Our evidence supports the value of active mutual fund management. DO MUTUAL FUND MANAGERS WHO actively trade stocks add value? Academics have debated this issue since the seminal paper of Jensen ~1968!. Although some controversy still exists, the majority of studies now conclude that actively managed funds ~e.g., the Fidelity Magellan fund!, on average, underperform their passively managed counterparts ~e.g., the Vanguard Index 500 fund!. 1 For example, Gruber ~1996! finds that the average mutual fund underperforms

We develop a simple rational model of active portfolio management that provides a natural benchmark against which to evaluate observed relationship between returns and fund flows. Many effects widely regarded as anomalous are consistent with this simple explanation. In the model, investments with active managers do not outperform passive benchmarks because of the competitive market for capital provision, combined with decreasing returns to scale in active portfolio management. Consequently, past performance cannot be used to predict future returns, or to infer the average skill level of active managers. The lack of persistence in actively managed returns does not imply that differential ability across managers is nonexistent or unrewarded, that gathering information about performance is socially wasteful, or that chasing performance is pointless. A strong relationship between past performance and the flow of funds exists in our model: indeed, this is the market mechanism that ensures that no predictability in performance exists. Choosing parameters to match the flow-performance relationship and survivorship rates, we find these features of the data are consistent with the vast majority (80%) of active managers having at least

We document strong positive correlation between changes in institutional ownership and returns measured over the same period. The result suggests that either institutional investors positive feedback trade more than individual investors or institutional herding impacts prices more than herding by individual investors. We find evidence that both factors play a role in explaining the relation. We find no evidence, however, of return mean-reversion in the year following large changes in institutional ownership -- stocks institutional investors purchase subsequently outperform those they sell. Moreover, institutional herding is positively correlated with lag returns and appears to be related to stock return momentum. 1 "Herding" (a group of investors trading in the same direction over a period of time) and "feedback trading" (correlation between herding and lag returns) have the potential to explain a number of financial phenomena, e.g., excess volatility, momentum, and reversals in stoc...

This article presents evidence on persistence in the relative investment performance of large, institutional equity managers. Similar to existing evidence for mutual funds, we find persistent performance concentrated in the managers with poor prior-period performance measures. A conditional approach, using time-varying measures of risk and abnormal performance, is better able to detect this persistence and to predict the future performance of the funds than are traditional methods.

We investigate the value of active mutual fund management by examining the stockholdings and trades of mutual funds. We find that stocks widely held by funds do not outperform other stocks. However, stocks purchased by funds have significantly higher returns than stocks that are sold—this is true for large stocks as well as small stocks, and for value stocks as well as growth stocks. Moreover, growth-oriented funds exhibit better stockselection skills than income-oriented funds, especially in picking large growth stocks. Finally, funds trading more frequently have, at best, marginally better stock-selection skills than funds that trade less often. The Value of Active Mutual Fund Management: An Examination of the Stockholdings and Trades of Fund Managers I.

This paper analyzes mutual-fund performance from an investor’s perspective. We study the portfolio-choice problem for a mean-variance investor choosing among a risk-free asset, index funds, and actively managed mutual funds. To solve this problem, we employ a Bayesian method of performance evaluation; a key innovation in our approach is the development of a flexible set of prior beliefs about managerial skill. We then apply our methodology to a sample of 1,437 mutual funds. We find that some extremely skeptical prior beliefs nevertheless lead to economically significant allocations to active managers. ACTIVELY MANAGED EQUITY MUTUAL FUNDS have trillions of dollars in assets, collect tens of billions in management fees, and are the subject of enormous attention from investors, the press, and researchers. For years, many experts have been saying that investors would be better off in low-cost passively managed index funds. Notwithstanding the recent growth in index funds, active managers still control the vast majority of mutual-fund assets. Are any of these active managers worth their added expenses? Should investors avoid all actively managed mutual funds? Since Jensen ~1968!, most studies have found that the universe of mutual funds does not outperform its benchmarks after expenses. 1 This evidence indicates that the average active mutual fund should be avoided. On the other hand, recent studies have found that future abnormal returns ~“alphas”! can be forecast using past returns or alphas, 2 past fund

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We present evidence from questionnaire studies of mutual fund investors about recollections of past fund performance. We find that investor memories exhibit a positive bias, consistent with current psychological models. We find that the degree of bias is conditional upon previous investor choice, a phenomenon related to the well known theory of cognitive dissonance.

Abstract: We investigate the effect of scale on performance in the active money management industry. We first document that fund returns, both before and after fees and expenses, decline with lagged fund size, even after adjusting these returns by various performance benchmarks. We then explore a number of potential explanations for this relationship. We find that this relationship is most pronounced among funds that have to invest in small and illiquid stocks, which suggests that the adverse effects of scale are related to liquidity. Controlling for its size, a fund’s performance actually increases with the asset base of the other funds in the family that the fund belongs to. This suggests that scale need not be bad for fund returns depending on how the fund is organized. Finally, we explore the idea that scale erodes fund performance because of the interaction of liquidity and organizational diseconomies.