Scale Effects in Mutual Fund Performance: The Role of Trading Costs

41 Pages Posted: 13 Dec 2006 Last revised: 8 Jul 2009

See all articles by Roger M. Edelen

Roger M. Edelen

Virginia Tech

Richard B. Evans

University of Virginia - Darden School of Business

Gregory B. Kadlec

Virginia Tech - Pamplin College of Business

Date Written: March 17, 2007

Abstract

Berk and Green (2004) argue that investment inflow at high-performing mutual funds eliminates return persistence because fund managers face diminishing returns to scale. Our study examines the role of trading costs as a source of diseconomies of scale for mutual funds. We estimate annual trading costs for a large sample of equity funds and find that they are comparable in magnitude to the expense ratio; that they have higher cross-sectional variation that is related to fund trade size; and that they have an increasingly detrimental impact on performance as the fund's relative trade size increases. Moreover, relative trade size subsumes fund size in regressions of fund returns, which suggests that trading costs are the primary source of diseconomies of scale for funds.

Keywords: Mutual Fund, Trading Costs, Size, Flow, Soft Dollars

JEL Classification: G11, G20, G24

Suggested Citation

Edelen, Roger M. and Evans, Richard B. and Kadlec, Gregory B., Scale Effects in Mutual Fund Performance: The Role of Trading Costs (March 17, 2007). Available at SSRN: https://ssrn.com/abstract=951367 or http://dx.doi.org/10.2139/ssrn.951367

Roger M. Edelen

Virginia Tech ( email )

1016 Pamplin Hall (0221)
Blacksburg, VA 24060-0221
United States

Richard B. Evans (Contact Author)

University of Virginia - Darden School of Business ( email )

P.O. Box 6550
Charlottesville, VA 22906-6550
United States
434-924-4030 (Phone)
434-243-7680 (Fax)

HOME PAGE: http://faculty.darden.virginia.edu/evansr/

Gregory B. Kadlec

Virginia Tech - Pamplin College of Business ( email )

1016 Pamplin Hall
Blacksburg, VA 24061
United States
540-231-4316 (Phone)

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