Mutual Fund Survivorship

Abstract

This paper offers a comprehensive study of survivorship issues, in the context of mutual fund research, using the mutual fund data set of Carhart (1997). We find that funds in our sample disappear primarily because of multi-year poor performance. Then we demonstrate analytically that this survival rule typically causes the survivor bias in average performance to increase in the length of the sample period, though it is possible to construct counterexamples. In the data, we find a strong positive relation between the survivor bias in average performance and sample period length. The bias is economically small at 17 basis points per annum for one-year samples, but a significantly larger one percent per annum for samples longer than fifteen years. We also find evidence of performance persistence in our sample and, consistent with the presence of a multi-period survival rule, we find that the persistence is weakened by survivorship bias. Finally, we explain how the relation between performance and fund characteristics can be affected by the use of a survivor-only sample and show that the magnitudes of the biases in the slope coefficients are large for fund size, expenses, turnover and load fees in our sample. Because survivorship issues are relevant for many data sets used in finance, the analysis in this paper has potential applications in areas of financial economics beyond just mutual fund research.1 Survivorship bias affects almost every mutual fund study. Most commercially available mutual fund data sets include only funds currently in operation, and many commonly used research methodologies impose additional selection biases. With the exception of a few recent papers, however, researchers frequently ignore selection biases altogether or argue that their effect is insignificant. This attitude is unfortunate, as selection-bias issues pervade almost all empirical studies of panel and time-series data sets. This paper offers a comprehensive study of survivorship issues, in the context of mutual fund research. We examine how survivorship bias affects mutual fund studies both theoretically and empirically. We study the effect of survivorship on three types of mutual fund studies: (1) estimates of average performance, (2) tests of performance persistence, and (3) cross-section estimates of the relation between performance and fund attributes. The analysis divides survivorship bias into the separate but related issues of survivor bias and look-ahead bias, an important distinction rarely acknowledged in the literature. Our results indicate that survivorship bias substantially alters the inferences from mutual fund studies, but that the effects vary across test type, form of survivorship bias, and sample period length. Because survivorship issues are relevant for many data sets used in finance, the analysis in this paper has potential applications in areas of financial economics beyond just mutual fund research.A number of recent papers have addressed issues in mutual fund survivorship. Brown, Goetzmann, Ibbotso...

Alpha and Persistence in Real Estate Fund Performance

“…Carhart (1997) provides a critical appraisal of the Hendricks et al study. In particular he adjusts for momentum effects in the underlying equity market data and potential survivorship bias in the data (something which the subsequent article by Carhart et al 2002 and a number of articles on hedge funds, notably by Malkeil and Saha 2005, explore further). While noting some evidence of superior performance, Carhart's overwhelming conclusion is that "...most funds under-perform by about the magnitude of their investment expenses".…”

“…Previous studies of persistence in other asset classes (see, for example Carhart et al 2002) have identified the survivorship bias generated by excluding funds which subsequently "die". This study limits survivorship bias by including some funds which subsequently expire.…”

Do Managerial Skills Vary Across Fund Managers? Results Using European Mutual Funds

“…As the above description shows, the database contains only the surviving funds at the end of the sample period, and therefore suffers from survivorship bias (see Elton et al 2001 andCarhart et al 2002). The effect of this bias on return persistence is addressed in a specific analysis in the last section of the paper.…”

“…In other words, the only available data are for funds that survive to the end of the sample period. This problem has been addressed in the mutual fund literature, by, among others, Carhart et al (2002) or Brown et al (1992), who show that this type of bias tends to reduce the persistence effect, while Brown et al (1997) reports that survivorship bias may even induce spurious persistence if high-volatility loser funds disappear from the sample. An indirect way of testing whether the return persistence found by this study in the Morningstar database is due to survivorship bias is to check for significant risk differences between the winner and loser portfolios.…”

Fortune Favours the Bold? Exploring Tournament Behavior among Australian Superannuation Funds

“…A number of studies such asGrinblatt and Titman (1989),Brown et al (1992),Carpenter and Lynch (1999) andCarhart et al (2002) document the economic significance of survivorship bias in studies of equity mutual fund performance, particularly in relation to the issue of persistence in performance. However, and as noted by DelGuercio and Tkac (2002), studies bySirri and Tufano (1998),Chevalier and Ellison (1997) andGoetzmann and Peles (1997) find that survivorship bias does not affect inferences about the funds flowperformance relationship and, therefore, is not a major issue in studies involving annual tournaments.…”