How Much Does Size Erode Mutual Fund Performance? A Regression Discontinuity Approach*

Mutual fund’s R2 as predictor of performance

Jonathan Reuter and Eric Zitzewitz

Review of Finance, 2021, vol. 25, issue 5, 1395-1432

Abstract: The level of diseconomies of scale in asset management has important implications for tests of manager skill and the expected level of performance persistence. To identify the causal impact of fund size on future returns, we exploit the fact that small differences in returns can cause discrete changes in Morningstar ratings that, in turn, generate discrete differences in fund size. Using our regression discontinuity approach, we find that ratings significantly increase fund size, but that fund size has a negligible effect on fund returns. Within Berk and Green’s (2004) model, the absence of meaningful fund-level diseconomies of scale implies that the lack of performance persistence arises from a lack of fund manager skill. Alternatively, the lack of performance persistence may arise from competitive pressures outside of their model.

Keywords: Mutual funds; Performance persistence; Manager skill; Diseconomies of scale (search for similar items in EconPapers)
JEL-codes: G14 G23 G24 (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (15)

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Working Paper: How Much Does Size Erode Mutual Fund Performance? A Regression Discontinuity Approach (2010)
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