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Mutual/Hedge Funds

Do investors in mutual funds and hedge funds get their fair share of returns, or are they perpetually disadvantaged by fees and underperforming fund managers? Are there ways to exploit fund behaviors? These blog entries relate to mutual funds and hedge funds.

Give Me Your Money Because…

Financial services firms must persuade investors to hand over their money. How do they do that? Do these companies rationally present their track records of excess risk-adjusted returns, or do they appeal for funds using less rational messages? In the October 2005 draft of their paper entitled “Persuasion in Finance”, Sendhil Mullainathan and Andrei Shleifer review and interpret trends in financial advertising over the past decade. Their investigative framework assumes that investors shift relative emphasis between two broad investment motivations, growth (getting rich, or greed) and protection (securing the future, or fear), depending on the state of the market. High past returns activate greed, and low past returns activate fear. They use this framework to test the rationality of financial firm advertising. Using 1469 ads from Business Week during January 1994 through December 2003 and 4971 ads from Money during January 1995 through December 2003 aimed at investors, they find that: Keep Reading

Benchmarking Returns for Hedge Funds

In a set of April 2005 charts entitled “The Topography of Hedge Fund Returns”, Craig French and David Abuaf of Corbin Capital Partners, L.P. map the annual returns of a range of hedge fund strategies over the past 15 years. Using data for all hedge funds that existed for all 12 months of each calendar year in the HFR database over 1990-2004, they find that: Keep Reading

Recognition: Is That a Good Thing?

In the September 2005 version of their paper entitled “Investor Recognition and Stock Returns”, Reuven LeHavy and Richard Sloan analyze the relation between how widely a stock is recognized and its returns (past and future). They use change in the proportion of quarterly SEC Form 13-F filers (institutional investment managers who exercise investment discretion over $100 million) holding a stock to represent the change in investor recognition of that stock. Using Form 13-F and stock price data over the period 1982-2004, they find that: Keep Reading

Outing the (Negative) Alpha

In his June 2005 paper entitled “Measuring the True Cost of Active Management by Mutual Funds”, Ross Miller decomposes mutual fund performance into two components: (1) a passive, index-tracking or “closet index” component; and, (2) an actively managed component that generates abnormal returns. What if, he asks, one assigns an index-like portion of annual mutual fund fees (such as the 0.18% expense ratio for Vanguard’s S&P 500 Index Fund) to the passive component and the balance of the fees to the actively managed component? How expensive would active management be, say, in comparison to hedge fund fees? In tackling these questions using the Morningstar database, he finds that: Keep Reading

Dumb Individual Investors and Smart Companies?

In their April 2005 paper entitled “Dumb money: Mutual Fund Flows and the Cross-section of Stock Returns”, Andrea Frazzini and Owen Lamont tackle a range of analyses tied to mutual fund inflows and outflows to determine whether or not these flows represent rational behavior on the part of individual investors. Do the flows predict abnormal returns for the underlying stocks? What do they mean for the wealth of the individuals causing them? By studying flows associated with domestic mutual funds from 1980 to 2003, they find that: Keep Reading

Going with the Flows

In their May 2005 paper entitled “Asset Fire Sales (and Purchases) in Equity Markets”, Joshua Coval and Erik Stafford examine the effects on stock prices of mutual funds forced to sell (buy) because of predictable outflows (inflows) of funds based on their past performance. Does such forced selling and buying present predictable opportunities for front-running? By studying mutual fund transactions caused by capital flows from 1980 to 2003, they conclude that: Keep Reading

The 5-Star Kiss of Death

In his paper “The Kiss Of Death: A 5-Star Morningstar Mutual Fund Rating?”, appearing in the second quarter 2005 issue of the Journal Of Investment Management, Matthew Morey examines the performance of mutual funds immediately after first achieving a Morningstar 5-star rating. Focusing on diversified domestic stock funds from July 1993 to July 2001 (273 funds), he concludes that: Keep Reading

What It Takes to Drive the Big (Hedge Fund) Rigs

Hedge funds now haul about $1 trillion in capital from opportunity to opportunity around world markets. Hedge fund managers have latitude to operate in ways that mutual fund managers do not in terms of leverage, shorting and types of assets traded (such as derivatives). What makes the best hedge fund managers successful? In their March 2005 paper entitled “Hedge Fund Performance and Manager Characteristics Education and Age Matter…”, Haitao Li, Rui Zhao and Xiaoyan Zhang correlate the background characteristics of hedge fund managers with the performances of their funds. Using a dataset encompassing 1,000+ hedge funds over the period 1994 to 2003, they conclude that: Keep Reading

How’s Your Mutual Fund Doing?

In case your mutual fund’s got you down… Keep Reading

Investment Managers: Randomly Walking the Plank?

In the February 2005 issue of The Financial Review, Burton Malkiel offers “Reflections on the Efficient Market Hypothesis: 30 Years Later” as a pudding-based proof of his famous proposition. He pits the performance of professional investment managers against that of market indices and finds that: Keep Reading

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