Informative Covariates, False Discoveries and Mutual Fund Performance

74 Pages Posted: 11 Jan 2021 Last revised: 27 Jun 2022

See all articles by Po-Hsuan Hsu

Po-Hsuan Hsu

National Tsing Hua University - Department of Quantitative Finance

Ioannis Kyriakou

Bayes Business School (formerly Cass), City, University of London

Tren Ma

University of Glasgow

Georgios Sermpinis

University of Glasgow

Date Written: November 25, 2020

Abstract

We introduce a novel multiple hypothesis testing method named the functional False Discovery Rate “plus” (fFDR+). The method incorporates informative covariates (and new information they carry) in estimating the False Discovery Rate (FDR) of predictive models’ “conditional” performance. In our simulation based on mutual fund returns, the fFDR+ controls well the FDR and gains considerable power over prior methods that do not account for extra information. Its advantage remains under different alpha distributions, balanced and unbalanced data structure, and cross-sectional dependent and independent error terms. It is also robust to estimation errors in the covariates. In further empirical analyses, we construct portfolios based on several covariates (five well-known and four new ones) and show that they enhance the performance of mutual fund portfolios, highlighting the value of extra information in the multiple hypothesis testing framework.

Keywords: Multiple testing, Functional false discovery rate, Informative covariates, Mutual funds, Alphas

JEL Classification: C11, C12, G23

Suggested Citation

Hsu, Po-Hsuan and Kyriakou, Ioannis and Ma, Tren and Sermpinis, Georgios, Informative Covariates, False Discoveries and Mutual Fund Performance (November 25, 2020). Available at SSRN: https://ssrn.com/abstract=3737456 or http://dx.doi.org/10.2139/ssrn.3737456

Po-Hsuan Hsu

National Tsing Hua University - Department of Quantitative Finance ( email )

101, Section 2, Kuang-Fu Road
Hsinchu, Taiwan 300
China

Ioannis Kyriakou

Bayes Business School (formerly Cass), City, University of London ( email )

Faculty of Actuarial Science & Insurance
106 Bunhill Row
London, EC1Y 8TZ
United Kingdom
+44 (0)20 7040 8738 (Phone)
+44 (0)20 7040 8881 (Fax)

HOME PAGE: http://www.bayes.city.ac.uk/experts/I.Kyriakou

Tren Ma (Contact Author)

University of Glasgow ( email )

Adam Smith Business School
Glasgow, Scotland G12 8LE
United Kingdom

Georgios Sermpinis

University of Glasgow ( email )

Adam Smith Business School
Glasgow, Scotland G12 8LE
United Kingdom

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