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Past Performance May Be an Illusion: Performance, Flows, and Fees in Mutual Funds

Critical Finance Review, Forthcoming

56 Pages Posted: 30 Oct 2012 Last revised: 22 Dec 2014

Blake Phillips

University of Waterloo

Kuntara Pukthuanthong

University of Missouri, Columbia

P. Raghavendra Rau

University of Cambridge

Date Written: September 15, 2014

Abstract

Mutual funds report performance in the form of a holding period return (HPR) over standardized horizons. Changes in HPRs are equally influenced by new and previously reported stale returns which enter and exit the horizon. Investors appear unable to differentiate between the joint determinants, reacting with equal strength to both signals. Stale performance chasing is amplified for funds which promote performance via advertising and is more pronounced during periods of uncertainty in financial markets. Fund managers exploit this behavior by preferentially timing fee increases to align with periods of heightened investor demand resulting from stale performance chasing.

Keywords: Limited attention; Behavioral finance; Investor psychology; Capital markets; Horizon effects; Mutual fund fee-setting

Suggested Citation

Phillips, Blake and Pukthuanthong, Kuntara and Rau, P. Raghavendra, Past Performance May Be an Illusion: Performance, Flows, and Fees in Mutual Funds (September 15, 2014). Critical Finance Review, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2168768 or http://dx.doi.org/10.2139/ssrn.2168768

Blake Phillips (Contact Author)

University of Waterloo ( email )

200 University Avenue West
Waterloo, Ontario N2L 3G1 N2L 3G1
Canada

Kuntara Pukthuanthong

University of Missouri, Columbia ( email )

Robert J. Trulaske, Sr. College of Business
403 Cornell Hall
Columbia, MO 65211
United States
6198076124 (Phone)

P. Raghavendra Rau

University of Cambridge ( email )

Cambridge Judge Business School
Trumpington Street
Cambridge, Cambridgeshire CB21AG
United Kingdom
3103626793 (Phone)

HOME PAGE: http://www.raghurau.com/

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