Costly Search and Mutual Fund Flows

Abstract

This paper studies the f lows of funds into and out of equity mutual funds. Consumers base their fund purchase decisions on prior performance information, but do so asymmetrically, investing disproportionately more in funds that performed very well the prior period. Search costs seem to be an important determinant of fund f lows. High performance appears to be most salient for funds that exert higher marketing effort, as measured by higher fees. Flows are directly related to the size of the fund's complex as well as the current media attention received by the fund, which lower consumers' search costs.ALTHOUGH MUCH ACADEMIC RESEARCH on mutual funds addresses issues of performance measurement and attribution, we can learn more from this industry than whether fund managers can consistently earn risk-adjusted excess returns. Researchers studying funds have shed light on how incentives affect fund managers' behavior, 1 how board structure affects oversight activities, 2 and how scale and scope economies affect mutual fund costs and fees. 3 More generally, the fund industry is a laboratory in which to study the actions of individual investors who buy fund shares. In this paper, we study the f lows of funds into and out of individual U.S. equity mutual funds to better understand the behavior of households that buy funds and the fund complexes and marketers that sell them.

The Impact of Idiosyncratic Risk on Mutual Fund Fees

“…We observe that our model captures the convexity of the flow-performance relationship identified empirically by Ippolito (1992), and Sirri and Tufano (1998). 8 This relationship is generally regarded as an exogenous feature of the interaction between mutual funds and their investors, and is typically interpreted as evidence that investors contribute enthusiastically to funds that have performed well, but hesitate to withdraw their investments from funds that have performed poorly.…”

“…Explicitly, several papers including Gruber (1996), Malkiel (1995), Carhart (1997), Sirri and Tufano (1998), Harless and Peterson (1998), Wermers (2000), Wermers (2003), Christoffersen and Musto (2002), Hortacsu and Syverson (2004), Kuhnen (2005), Gil-Bazo and Ruiz-Verdú (2009) have provided evidence of a puzzling negative relationship between advisory fees and mutual fund (gross or net) performance. This evidence has awkward economic implications, since it is incompatible with even the most charitable interpretation of investor rationality as it suggests that investors are willing to pay aboveaverage advisory fees to their underperforming managers.…”

Overconfidence Among Professional Investors: Evidence from Mutual Fund Managers

“…Obviously, only voluntary trading can be a reasonable proxy for overconfidence. Using total trading activity is particularly problematic in our context because there is ample evidence that past performance has a strong impact on fund flows (see, e.g., Sirri and Tufano, 1998) and we conjecture a positive impact of past performance on overconfidence, too. Consequently, the conjectured increase in trading activity after good performance might be driven by higher inflows and the need to invest this new money.…”

“…To take into account the time structure of the flows as exactly as possible, we start by calculating monthly flow figures based on the following method suggested by Sirri and Tufano (1998):…”

Survival, Look-Ahead Bias, and Persistence in Hedge Fund Performance

“…In the mutual fund literature it is commonly found that the well performing funds attract much larger money- ‡ows than badly performing funds (see, e.g. Sirri and Tufano, 1998). A recent paper of Agarwal, Daniel and Naik (2003) reports similar …ndings for the hedge fund industry.…”