Ability to Capture Up Market Gains and Avoid Down Market Losses: The Upside and Downside Capture Ratios

Abstract

We examine the Upside and Downside Capture Ratios, which distinguish between mutual funds that better capture returns in up markets and better reduce losses in down markets. We find strong evidence that the Upside Capture Ratio successfully identifies mutual funds that subsequently outperform in up markets even after controlling for systematic risk exposure. We further find evidence that mutual fund flows are strongly associated with both Upside and Downside Capture Ratios. This relationship indicates that investors utilize Capture Ratios to engage in a form of market timing through their mutual fund allocation decisions.

Keywords: Mutual Funds, Performance, Flows, Morningstar Capture Ratios

JEL Classification: G10, G11, G20, G23