Benchmarking UK Mutual Fund Performance: The Random Portfolio Experiment
21 Pages Posted: 21 Apr 2015
Date Written: April 17, 2015
We formally test the age-old question of whether professionally managed equity funds outperform portfolios of stocks selected at random, also known as ‘dartboard’ or ‘monkey’ portfolios. We examine the case of UK equity mutual funds between 1980 and 2011. We employ alpha and the t-statistic of alpha as performance measures from CAPM, Fama-French and Carhart factor models. We find that around 5% to 25% of funds across alternative performance measures and models yield abnormal returns beyond that which can be explained by random chance or luck in performance. The t-statistic of alpha indicates a slightly higher percentage of skilful funds compared to alpha, most likely for statistical reasons around short-lived funds. The degree of skilful performance among managed funds is higher when evaluated by a single factor CAPM or Fama and French three factor alpha but a Carhart four factor model explains much of this performance.
Keywords: mutual fund performance, random portfolios, skill, luck
JEL Classification: G14, G17, C15
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