Lottery‐like features and mutual fund performance‐flow sensitivity

Hua Cheng, Lingtian Kong, Tse‐Chun Lin, Yan Luo and Ningyu Zhou

Financial Management, 2025, vol. 54, issue 3, 493-517

Abstract: We show that mutual funds' lottery‐like features weaken the performance‐flow sensitivity, particularly among low‐performing funds, thereby contributing to the convexity of the fund performance‐flow relation. The results hold when different model specifications are used to test the fund performance‐flow relation, are robust to alternative measures for funds' lottery‐like features, and cannot be attributed to fund search costs, marketing efforts, or fund performance volatility. Utilizing retail trading data at the account level from a large brokerage firm, we offer additional evidence that funds' lottery‐like features significantly reduce outflows for low‐performing funds. It confirms that the weakened performance‐flow sensitivity among low‐performing funds with lottery‐like features is driven by existing investors' reluctance to redeem their shares. Furthermore, we reveal that fund managers can cater to investors' gambling preference by tilting fund portfolios toward lottery‐type stocks. Funds' lottery‐like features, however, aggravate future fund performance, especially among those that have already underperformed in the past.

Date: 2025
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