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Smart Fund Managers? Stupid Money?

Dan Bernhardt (), Ryan Davies and Harvey Westbrook Jr. ()
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Harvey Westbrook Jr.: Securities and Exchange Commission, Washintgon DC

ICMA Centre Discussion Papers in Finance from Henley Business School, University of Reading

Abstract: We develop a theoretical model of a mutual fund manager's investment decision that incorporates three well-known observations: (i) past fund performance influences subsequent net fund inflows; (ii) fund manager compensation rises with total assets under management; (iii) trading has short-run price impacts. These observations provide fund managers the incentive to distort investment of new cash inflows toward stocks in which the fund holds larger positions. We show that this leads to the empirically observed short-run persistence and long-run reversal in fund performance. It also explains why mutual funds tend to be relatively undiversified and appear to exhibit clairvoyant stock selection.

Keywords: turn-of-quarter effect; painting the tape; mutual fund performance; investment distortion (search for similar items in EconPapers)
JEL-codes: D82 G14 G2 (search for similar items in EconPapers)
Pages: 32 pages
Date: 2002-09, Revised 2003-07
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Journal Article: Smart fund managers? Stupid money? (2009) Downloads
Journal Article: Smart fund managers? Stupid money? (2009) Downloads
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