Why do Funds Make More When They Trade More?

Author:

Kim Jaden Jonghyuk1,Lee Jung Hoon2,Venkatesan Shyam3ORCID

Affiliation:

1. International Monetary Fund, 700 19th Street NW, Washington, DC 20431, USA

2. Owen Graduate School of Management, Vanderbilt University, 401 21st Ave S, Nashville, TN 37203, USA

3. Ivey Business School, University of Western Ontario, 1255 Western Rd, London, ON N6G 0N1, Canada

Abstract

In this paper, we introduce a conditional measure of skill, the correlation between funds’ residual trades, net of common trading motives, and future news about the stocks traded. Using this measure, we show that the average mutual fund manager in the cross-section has stock-picking skill. This result is robust to different benchmarks and is mainly driven by the manager’s ability to predict a firm’s cash-flow news. This skill has short-term persistence and is distinctly related to traditional measures of performance. Importantly, consistent with Berk and Green [2004, Mutual Fund Flows and Performance in Rational Markets, Journal of Political Economy 112(6), 1269–1295] fund flows are increasing with respect to managerial skill after controlling for fund performance.

Publisher

World Scientific Pub Co Pte Ltd

Subject

Strategy and Management,Economics and Econometrics,Finance

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