The Harm in Selecting Funds that Have Recently Outperformed
12 Pages Posted: 13 Feb 2016 Last revised: 28 Feb 2016
Date Written: February 25, 2016
We empirically investigate the investment results of commonly used fund selection strategies that involve redeploying assets from underperforming to outperforming funds. Based on portfolios constructed using U.S. mutual fund data over typical three-year evaluation periods, we find that investors who chose funds with poor recent performance earned higher excess returns than those who chose funds with superior recent performance. Our findings pose a challenge for asset owners: If past performance is used at all in selecting funds, it is the best-performing funds that should be replaced. Realistically, however, a policy of replacing successful funds with poor performers is unlikely to gain widespread acceptance. Instead, the practical implication of our paper is that asset owners should focus on factors other than past performance. We offer alternate criteria for selecting funds.
Keywords: Asset Management, Investment Consultants, Fund Performance, Mutual Fund Selection
JEL Classification: G23, G11
Suggested Citation: Suggested Citation