Decreasing Returns to Scale, Fund Flows, and Performance

59 Pages Posted: 22 Jun 2017 Last revised: 6 Jul 2017

See all articles by Campbell R. Harvey

Campbell R. Harvey

Duke University - Fuqua School of Business; National Bureau of Economic Research (NBER); Duke Innovation & Entrepreneurship Initiative

Yan Liu

Texas A&M University, Department of Finance

Date Written: June 26, 2017

Abstract

Theoretical models imply fund size and performance should be negatively linked. However, empiricists have failed to uncover consistent support for this negative relation. Using a new econometric framework which includes fund-specific sensitivities to decreasing returns to scale, we find a both economically and statistically significant negative relation between fund size and performance. Exploiting fund heterogeneity to decreasing returns to scale, we show that investors direct flows to those funds with low sensitivity to decreasing returns to scale. Interestingly, investors appear to over-allocate capital to these low sensitivity funds leading to significantly negative excess performance.

Keywords: Performance Evaluation, Mutual Funds, Hedge Funds, EM Algorithm, Fixed Effects, Random Effects, Scale, AUM, Alpha

JEL Classification: G10, G11, G12, G14, G23, G24

Suggested Citation

Harvey, Campbell R. and Liu, Yan, Decreasing Returns to Scale, Fund Flows, and Performance (June 26, 2017). Duke I&E Research Paper No. 2017-13. Available at SSRN: https://ssrn.com/abstract=2990737 or http://dx.doi.org/10.2139/ssrn.2990737

Campbell R. Harvey (Contact Author)

Duke University - Fuqua School of Business ( email )

Box 90120
Durham, NC 27708-0120
United States
919-660-7768 (Phone)
919-660-8030 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Duke Innovation & Entrepreneurship Initiative ( email )

215 Morris St., Suite 300
Durham, NC 27701
United States

Yan Liu

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

Wehner 401Q, MS 4353
College Station, TX 77843-4218
United States

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