The Outperformance Probability of Mutual Funds

Gabriel Frahm and Ferdinand Huber
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Gabriel Frahm: Chair of Applied Stochastics and Risk Management, Department of Mathematics and Statistics, Helmut Schmidt University, 22043 Hamburg, Germany
Ferdinand Huber: Chair of Applied Stochastics and Risk Management, Department of Mathematics and Statistics, Helmut Schmidt University, 22043 Hamburg, Germany

JRFM, 2019, vol. 12, issue 3, 1-29

Abstract: We propose the outperformance probability as a new performance measure, which can be used in order to compare a strategy with a specified benchmark, and develop the basic statistical properties of its maximum-likelihood estimator in a Brownian-motion framework. The given results are used to investigate the question of whether mutual funds are able to beat the S&P 500 or the Russell 1000. Most mutual funds that are taken into consideration are, in fact, able to beat the market. We argue that one should refer to differential returns when comparing a strategy with a given benchmark and not compare both the strategy and the benchmark with the money-market account. This explains why mutual funds often appear to underperform the market, but this conclusion is fallacious.

Keywords: exchange traded funds; inverse coefficient of variation; mutual funds; outperformance probability; performance measurement; Sharpe ratio (search for similar items in EconPapers)
JEL-codes: C E F2 F3 G (search for similar items in EconPapers)
Date: 2019
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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