Appraisal Ratio and the Mutual Fund's Stock Picking Skill

59 Pages Posted: 19 Jul 2018

See all articles by Yi Alex Wang

Yi Alex Wang

Hong Kong Polytechnic University, School of Accounting and Finance

Date Written: November 17, 2017

Abstract

According to the costly arbitrage theory, stocks with high idiosyncratic volatility deter arbitrageurs from trading against the temporal mispricing to gain profits. Hence, long equity holders, such as equity mutual funds, would not take on too much 'idiosyncratic risk' in their portfolios, unless they have strong beliefs that those assets are undervalued. In this study, we use the holding-based fund-level 'appraisal ratio', based on the Treynor and Black (1973) model, to infer the stock picking skill of actively managed mutual funds in the U.S. equity market. Overall, we find that the degree of a fund portfolio tilting towards stocks with higher 'appraisal ratio' helps to identify those funds with superior stock picking ability, which leads to better future performance. And the effect is stronger following periods with lower investor sentiment, indicating that this approach can identify those skilled fund managers who are active in terms of searching for undervalued stocks. Evidences from quarterly earnings announcements and analyst recommendations complement our conjecture that this measure is a good proxy for the stock picking ability of skilled fund managers in the U.S. active management industry.

Keywords: appraisal ratio, mutual fund, stock picking skill, mispricing

JEL Classification: G11

Suggested Citation

Wang, Yi, Appraisal Ratio and the Mutual Fund's Stock Picking Skill (November 17, 2017). Available at SSRN: https://ssrn.com/abstract=3201993 or http://dx.doi.org/10.2139/ssrn.3201993

Yi Wang (Contact Author)

Hong Kong Polytechnic University, School of Accounting and Finance ( email )

Hung Hom
Kowloon
Hong Kong

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
66
Abstract Views
376
rank
352,492
PlumX Metrics