Skill and Efficiency in the U.S. Mutual Fund Industry

Dong Hwan Oh and Andrew Patton
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Dong Hwan Oh: https://www.federalreserve.gov/econres/dong-hwan-oh.htm

No 2026-032, Finance and Economics Discussion Series from Board of Governors of the Federal Reserve System (U.S.)

Abstract: We propose a new measure of mutual fund manager ability: "efficiency" is the ability to accrue the risk premium associated with a risk factor. The familiar abnormal return, or alpha, is shown to be the sum of two distinct measures of ability: "aggregate efficiency" which is the beta-weighted sum of the fund's (in)efficiencies across risk factors, and "skill," the component that is unrelated to factor exposures. Using a panel of U.S. equity mutual fund returns from 1999-2023, we document significant heterogeneity in mutual fund manager skill and efficiency. We employ regression trees and their extensions to capture this heterogeneity. We find that efficiency is more persistent than skill, and we show that future abnormal returns can be better predicted by decomposing lagged abnormal returns into skill and efficiency.

Keywords: mutual fund performance; trading costs; machine learning; heterogeneity (search for similar items in EconPapers)
JEL-codes: C58 G11 G12 G23 (search for similar items in EconPapers)
Pages: 79 p.
Date: 2026-03-25
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Persistent link: https://EconPapers.repec.org/RePEc:fip:fedgfe:103342

DOI: 10.17016/FEDS.2026.032

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