On Persistence in Mutual Fund Performance

MARK M. CARHART [1997]

Siraprapa Watakit
5502310013
 Agenda
2

 Overview of The Paper

 Contribution
 Data and Models
 Persistence in One-Year Return-Sorted Mutual Fund Portfolios
 Interpreting the Performance on Past-Winner Mutual Funds
 Conclusion and Summary
 Overview of The Paper
3

 Previous study suggest that there is persistent in mutual funds

because the stocking picking skill of managers
 Other study also suggest that mutual fund gain abnormal return
because momentum strategy
 Carhart argues that those finding suffer from survival ship bias and
model mispecification
 He uses large and multiple sources in this research can conclude
that
 The only thing persistent is expenses and transaction cost

 The abnormal return is short-lived within 1 year

 The momentum strategy does not provide abnormal return

 Contribution
4

 The more complete set of data provide new evidence about what
persistent on the mutual funds
 Expense ratio and transaction costs are persistence

 Expense, turnover, transaction costs reduce fund performance

 Investor should avoid persistently poor performance funds

 Data and Models
5

 Data
 Jan/1962-Dec/1993

 Monthly

 Surviving funds: Micropal/

Investment Company
 Non-surviving funds:
FundScope
Magazine, United Babson
Reports, Wosenberger,
Wall Street
 Table 1: Transaction costs is 7%
 Data and Models
6

 CAPM and Carhart 4-factor models

 The 4-factor model can explain much variance in returns and the
low correlation between independent variable suggest low
multicollinearity problem
 The 4-factor model eliminates
almost problem i.e. price pattern
 Persistence in One-Year Return-Sorted
7
Mutual Fund Portfolios
 A. Common-Factor Explanations of One-Year Mutual Fund Persistence
 Methodology: Form 10 portfolios of
mutual funds(equally weighed),
and calculate return with 1-year lagged
 Table 3:
 CAPM betas are identical
in every deciles
 4-Factor can explain better
 Top performance port
has more small stock
 PR1YR factor
is + for top decile and
- for low decile
 Persistence in One-Year Return-Sorted
8
Mutual Fund Portfolios
 B. Characteristics of the Mutual Fund Portfolios
 Table4:
 Expense and turnover
are related to performance
 The low decile have
highest expense ratio
 Fund size, age, load fee
cannot explain the spread
of the fund performance
 Persistence in One-Year Return-Sorted
9
Mutual Fund Portfolios
 C. Characteristics of Individual Mutual Funds
 Manager usually says that Expense and Turnover does not reduce
fund performance; Carhart directly test this claim by estimating
alpha in each month, for each individual funds, then average the
coefficient across samples(like Fama MacBeth)

Expense ratio, TNA, Mturn, load fees, BuyTurnover,

 Table5 SellTurnover
Increase in exp.ratio,
lower abnormal return
by -154 bp

turnover also implies

transaction cost
 Interpreting the Performance on Past-
10
Winner Mutual Funds
 Figure 1: Consistency
in Ranking
 Winner are likely
to stay winner
 Loser are likely
to stay Loser

 However, top decile

fund ranking changes
substantially
with high turnover ratio
 Last year winner mostly become next year loser
 Interpreting the Performance on Past-
11
Winner Mutual Funds
 The large number of top-decile funds that revert to lower ranks
suggests that the relatively high returns on the funds in this portfolio
are short-lived

Average excess return

of original formation
 Interpreting the Performance on Past-
12
Winner Mutual Funds
 Carhart also finds that
 The abnormal return are short lived

 These mutual funds don't follow the momentum strategy, but are
funds that accidentally end up holding last year‘s winners.
 Longer-Term Persistence in Mutual
13
Fund Portfolios
 After 2 years, the only thing persistent is expense and transaction
 Conclusion
14

 The research explain the factors in short term persistence in mutual

funds
 Dividing into 10 portfolio of mutual funds, the factors that explain
the spread of the portfolio are expense ratio and transaction costs
 The finding also suggest that the expense, transaction costs and
turnover does reduce the abnormal returns of mutual funds