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Session Overview
FIIE-5: Fund Performance
Friday, 25/Aug/2017:
8:30am - 10:00am

Session Chair: Stefan Ruenzi, University of Mannheim
Location: O148

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Are Hedge Fund Capacity Constraints Binding? Evidence on Scale and Competition

Charles Cao1, Raisa Velthuis2

1Penn State University; 2Villanova University

Discussant(s): Florian Weigert (University of St. Gallen)

An important question in hedge fund management is whether hedge funds experience decreasing returns to scale, as hedge fund managers often pursue arbitrage opportunities which are limited and short-lived. Extant literature has presented evidence of decreasing returns to scale at the hedge fund level. Employing a newly developed, unbiased estimation method based on recursive demeaning, we find no evidence of decreasing returns to scale at the hedge fund level. However, we do find evidence that hedge fund returns are decreasing in industry size. Further tests suggest that inter-hedge fund competition drives this result. Additionally, we examine the evolution of raw managerial skill of hedge funds over time and find that fund performance deteriorates as funds grow older, but this does not take away from the detrimental effects on performance due to the industry becoming more competitive.

EFA2017-1937-FIIE-5-Cao-Are Hedge Fund Capacity Constraints Binding Evidence.pdf

Diseconomies of Scope and Mutual Fund Manager Performance

Richard Evans1, Javier Gil-Bazo2, Marc Lipson1

1University of Virginia; 2Pompeu Fabra University

Discussant(s): Susan Christoffersen (University of Toronto)

We examine the changes in performance of mutual fund managers that result from changes in the scope of their duties. While confirming that the scope of manager responsibilities is expanded in response to positive past performance, we demonstrate that this expanded scope attenuates subsequent performance after controlling for effects related to fund size. Conversely, reductions in scope enhance performance. Our results suggest a significant diseconomy of scope exists with respect to performance similar to the diseconomies of scale previously highlighted and that, together, these two effects may explain the observed attenuation over time in abnormal relative mutual fund returns.

EFA2017-963-FIIE-5-Evans-Diseconomies of Scope and Mutual Fund Manager Performance.pdf

Cheaper Is Not Always Better: On the Superior Performance of High-Fee Mutual Funds

Jinfei Sheng1, Mikhail Simutin2, Terry Zhang1

1University of British Columbia; 2University of Toronto

Discussant(s): Janis Berzins (BI Norwegian Business School)

The well-established negative relation between expense ratios and future net-of-fees performance of actively managed equity mutual funds guides portfolio decisions of institutional and retail investors. We show that this relation is an artifact of the failure to adjust performance for exposure to the profitability and investment factors. High-fee funds exhibit a strong preference for stocks with low operating profitability and high investment rates, characteristics recently found to associate with low expected returns. We show that after controlling for exposures to profitability and investment factors, high-fee funds significantly outperform low-fee funds before expenses, and perform equally well net of fees. Our results have important implications for asset allocation decisions and support the theoretical prediction that skilled managers extract rents by charging high fees.

EFA2017-1347-FIIE-5-Sheng-Cheaper Is Not Always Better.pdf

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