Why So Many Mutual Funds? Mutual Fund Families, Market Segmentation and Financial Performance

Abstract:     
Why are there so many mutual funds around? What leads the industry to segment itself into an ever-increasing number of categories? What can be said about such a market configuration in terms of welfare? To address these questions we model the process that endogenously leads to market segmentation and to fund proliferation in the mutual fund industry.

We argue that these phenomena can be seen as marketing strategies used by the managing companies to exploit investors' heterogeneity. We explain category and fund proliferation providing an industry-specific micro foundation on the basis of basis of the "spillover" that the perfomance of a fund provides to all the other funds belonging to the same family.

We argue that market forces may induce a sub-optimal number of mutual funds and categories and identify the factors that determine such inefficiency.

Mutual fund performance is endogenously derived as a function of investors' and managing companies' tastes and technology. This lets us shed new light on the determinants of mutual fund performance and reconsider the traditional methods of testing fund efficiency.

Keywords: Mutual Funds, Financial Intermediation, Market Structure, Discrete Choice and Performance

JEL Classifications: G11, G23

Working Paper Series