The Quality-Assuring Role of Mutual Fund Advisory Fees

47 Pages Posted: 12 Mar 2016 Last revised: 19 Apr 2018

See all articles by Michel A. Habib

Michel A. Habib

University of Zurich; Swiss Finance Institute

D. Bruce Johnsen

George Mason University - School of Law; PERC - Property and Environment Research Center

Multiple version iconThere are 2 versions of this paper

Date Written: February 5, 2016

Abstract

Active fund managers implicitly promise to research profitable portfolio selection. But active management is an experience good subject to moral hazard. Investors cannot tell high from low quality up front and therefore fear manager shirking. We show how the parties mitigate the moral hazard by paying the manager a premium fee sufficiently high that the manager’s one-time gain from shirking is less than the capitalized value of the premium stream he earns from maintaining his promise to provide high quality. Premium advisory fees act as a quality-assuring bond. Our model has a number of revealing extensions and comparative statics.

Keywords: Excessive fees, advisory fees, quality-assurance, open-access, closet indexing

JEL Classification: D23, D86, G23, L22

Suggested Citation

Habib, Michel A. and Johnsen, D. Bruce, The Quality-Assuring Role of Mutual Fund Advisory Fees (February 5, 2016). Swiss Finance Institute Research Paper No. 16-16, George Mason Law & Economics Research Paper No. 16-22, Available at SSRN: https://ssrn.com/abstract=2745907 or http://dx.doi.org/10.2139/ssrn.2745907

Michel A. Habib (Contact Author)

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D. Bruce Johnsen

George Mason University - School of Law ( email )

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