Reverse Survivorship Bias

Linnainmaa, Juhani T.

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Reverse Survivorship Bias

Journal of Finance, Forthcoming

Western Finance Association 2010 Conference

CRSP Working Paper

Chicago Booth Research Paper No. 10-17

49 Pages Posted: 12 Apr 2010 Last revised: 17 Nov 2011

See all articles by Juhani T. Linnainmaa

Juhani T. Linnainmaa

Dartmouth College - Tuck School of Business; National Bureau of Economic Research (NBER); Kepos Capital

Date Written: November 7, 2011

Abstract

Mutual funds often disappear following poor performance. When this poor performance is partly attributable to negative idiosyncratic shocks, funds' estimated alphas understate their true alphas. This paper estimates a structural model to correct for this bias. Although most funds still have negative alphas, they are not nearly as low as those suggested by the fund-by-fund regressions. Approximately 12% of funds have net four-factor model alphas greater than 2% per year. All studies that run fund-by-fund regressions to draw inferences about the prevalence of skill among mutual fund managers are subject to reverse survivorship bias.

Keywords: Mutual Funds, Performance Evaluation, Reverse Survivorship Bias

JEL Classification: C11, G11, G12

Suggested Citation: Suggested Citation

Linnainmaa, Juhani T., Reverse Survivorship Bias (November 7, 2011). Journal of Finance, Forthcoming, Western Finance Association 2010 Conference, CRSP Working Paper, Chicago Booth Research Paper No. 10-17, Available at SSRN: https://ssrn.com/abstract=1588146