The Journal of Finance

Mutual Fund Performance: An Empirical Decomposition into Stock‐Picking Talent, Style, Transactions Costs, and Expenses

Published: 12/17/2002   |   DOI: 10.1111/0022-1082.00263

Russ Wermers

We use a new database to perform a comprehensive analysis of the mutual fund industry. We find that funds hold stocks that outperform the market by 1.3 percent per year, but their net returns underperform by one percent. Of the 2.3 percent difference between these results, 0.7 percent is due to the underperformance of nonstock holdings, whereas 1.6 percent is due to expenses and transactions costs. Thus, funds pick stocks well enough to cover their costs. Also, high‐turnover funds beat the Vanguard Index 500 fund on a net return basis. Our evidence supports the value of active mutual fund management.

Mutual Fund Herding and the Impact on Stock Prices

Published: 12/17/2002   |   DOI: 10.1111/0022-1082.00118

Russ Wermers

We analyze the trading activity of the mutual fund industry from 1975 through 1994 to determine whether funds “herd” when they trade stocks and to investigate the impact of herding on stock prices. Although we find little herding by mutual funds in the average stock, we find much higher levels in trades of small stocks and in trading by growth‐oriented funds. Stocks that herds buy outperform stocks that they sell by 4 percent during the following six months; this return difference is much more pronounced among small stocks. Our results are consistent with mutual fund herding speeding the price‐adjustment process.

False Discoveries in Mutual Fund Performance: Measuring Luck in Estimated Alphas

Published: 01/13/2010   |   DOI: 10.1111/j.1540-6261.2009.01527.x

LAURENT BARRAS, OLIVIER SCAILLET, RUSS WERMERS

This paper develops a simple technique that controls for “false discoveries,” or mutual funds that exhibit significant alphas by luck alone. Our approach precisely separates funds into (1) unskilled, (2) zero‐alpha, and (3) skilled funds, even with dependencies in cross‐fund estimated alphas. We find that 75% of funds exhibit zero alpha (net of expenses), consistent with the Berk and Green equilibrium. Further, we find a significant proportion of skilled (positive alpha) funds prior to 1996, but almost none by 2006. We also show that controlling for false discoveries substantially improves the ability to find the few funds with persistent performance.

Measuring Mutual Fund Performance with Characteristic‐Based Benchmarks

Published: 04/18/2012   |   DOI: 10.1111/j.1540-6261.1997.tb02724.x

KENT DANIEL, MARK GRINBLATT, SHERIDAN TITMAN, RUSS WERMERS

This article develops and applies new measures of portfolio performance which use benchmarks based on the characteristics of stocks held by the portfolios that are evaluated. Specifically, the benchmarks are constructed from the returns of 125 passive portfolios that are matched with stocks held in the evaluated portfolio on the basis of the market capitalization, book‐to‐market, and prior‐year return characteristics of those stocks. Based on these benchmarks, “Characteristic Timing” and “Characteristic Selectivity” measures are developed that detect, respectively, whether portfolio managers successfully time their portfolio weightings on these characteristics and whether managers can select stocks that outperform the average stock having the same characteristics. We apply these measures to a new database of mutual fund holdings covering over 2500 equity funds from 1975 to 1994. Our results show that mutual funds, particularly aggressive‐growth funds, exhibit some selectivity ability, but that funds exhibit no characteristic timing ability.

Can Mutual Fund “Stars” Really Pick Stocks? New Evidence from a Bootstrap Analysis

Published: 01/11/2007   |   DOI: 10.1111/j.1540-6261.2006.01015.x

ROBERT KOSOWSKI, ALLAN TIMMERMANN, RUSS WERMERS, HAL WHITE

We apply a new bootstrap statistical technique to examine the performance of the U.S. open‐end, domestic equity mutual fund industry over the 1975 to 2002 period. A bootstrap approach is necessary because the cross section of mutual fund alphas has a complex nonnormal distribution due to heterogeneous risk‐taking by funds as well as nonnormalities in individual fund alpha distributions. Our bootstrap approach uncovers findings that differ from many past studies. Specifically, we find that a sizable minority of managers pick stocks well enough to more than cover their costs. Moreover, the superior alphas of these managers persist.

Decentralized Investment Management: Evidence from the Pension Fund Industry

Published: 01/30/2013   |   DOI: 10.1111/jofi.12024

DAVID BLAKE, ALBERTO G. ROSSI, ALLAN TIMMERMANN, IAN TONKS, RUSS WERMERS

Using a unique data set, we document two secular trends in the shift from centralized to decentralized pension fund management over the past few decades. First, across asset classes, sponsors replace generalist balanced managers with better‐performing specialists. Second, within asset classes, funds replace single managers with multiple competing managers following diverse strategies to reduce scale diseconomies as funds grow larger relative to capital markets. Consistent with a model of decentralized management, sponsors implement risk controls that trade off higher anticipated alphas of multiple specialists against the increased difficulty in coordinating their risk‐taking and the greater uncertainty concerning their true skills.