Mutual Fund Performance and the Incentive to Generate Alpha

68 Pages Posted: 8 Oct 2011

See all articles by Diane Del Guercio

Diane Del Guercio

University of Oregon, Lundquist College of Business; European Corporate Governance Institute (ECGI)

Jonathan Reuter

Boston College - Department of Finance; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: October 2011

Abstract

Financial economists have long been puzzled by investor demand for actively managed funds that generate, on average, negative after-fee, risk-adjusted returns. To shed new light on this puzzle, we exploit the fact that funds in different market segments compete for different types of retail investors. Within the segment of funds marketed directly to retail investors, we find that flows chase risk-adjusted returns, and that funds respond by investing more in active management. Importantly, within this direct-sold segment, we find little evidence that actively managed funds underperform index funds. In contrast, within the segment of funds sold through brokers, which we demonstrate face a weaker incentive to generate alpha, we find that actively managed funds significantly underperform index funds. We conclude that the well-known underperformance of the average actively managed fund in the full sample is driven by the large fraction of funds with weak incentives to identify and motivate skilled managers.

Suggested Citation

Del Guercio, Diane and Reuter, Jonathan, Mutual Fund Performance and the Incentive to Generate Alpha (October 2011). NBER Working Paper No. w17491. Available at SSRN: https://ssrn.com/abstract=1940336

Diane Del Guercio (Contact Author)

University of Oregon, Lundquist College of Business ( email )

Lundquist College of Business
1208 University of Oregon
Eugene, OR 97403
United States
541-346-5179 (Phone)
541-346-3341 (Fax)

European Corporate Governance Institute (ECGI) ( email )

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

Jonathan Reuter

Boston College - Department of Finance ( email )

Carroll School of Management
140 Commonwealth Avenue
Chestnut Hill, MA 02467-3808
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Register to save articles to
your library

Register

Paper statistics

Downloads
28
Abstract Views
1,862
PlumX Metrics