How Many Good and Bad Funds Are There, Really?

89 Pages Posted: 15 Aug 2015 Last revised: 19 Oct 2018

See all articles by Wayne E. Ferson

Wayne E. Ferson

University of Southern California; National Bureau of Economic Research (NBER)

Yong Chen

Texas A&M University - Department of Finance

Date Written: April 18, 2018

Abstract

Building on the work of Barras, Scaillet and Wermers (BSW, 2010), we propose a modified approach to inferring performance for a cross-section of investment funds. Our model assumes that funds belong to groups of different abnormal performance or alpha. Using the structure of the probability model, we simultaneously estimate the alpha locations and the fractions of funds for each group, taking multiple testing into account. Our approach allows for tests with imperfect power that may falsely classify good funds as bad, and vice versa. Examining both mutual funds and hedge funds, we find smaller fractions of zero-alpha funds and more funds with abnormal performance, compared with the BSW approach. We also use the model as prior information about the cross-section of funds to evaluate and predict fund performance.

Keywords: Hedge Fund, Mutual fund, Fund performance, False discovery rates, Bayes rule, Bootstrap, Goodness of fit, Test power, Trading Strategies, Kernel Smoothing

JEL Classification: G11, G23, C12

Suggested Citation

Ferson, Wayne E. and Chen, Yong, How Many Good and Bad Funds Are There, Really? (April 18, 2018). Available at SSRN: https://ssrn.com/abstract=2643818 or http://dx.doi.org/10.2139/ssrn.2643818

Wayne E. Ferson

University of Southern California ( email )

2250 Alcazar Street
Los Angeles, CA 90089
United States

HOME PAGE: http://www-rcf.usc.edu/~ferson/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Yong Chen (Contact Author)

Texas A&M University - Department of Finance ( email )

360 Wehner Building
College Station, TX 77843-4218
United States

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