Mutual Fund Dilution from Market Timing Trades

Abstract:     
This paper introduces a model to measure the dilution impact on an open-end fund due to market timing trades. When a timer buys shares of a fund just prior to positive returns, the extra cash in the fund dilutes the fund's return. While this impact can be directly measured on the day after a timer's purchase, the impact on subsequent days depends on whether the fund's cash balance remains distorted. Our model offers a framework that allows the timer's holding period and the portfolio manager's treatment of cash flows to inform an accurate calculation of the dilution impact.

Keywords: Dilution, fund flows, market timing

JEL Classifications: G10, G11, G21

Working Paper Series