Mutual fund managers may owe their success to luck more than skill, and that luck will turn, research shows

June 11th, 2012

In this video, Professor of Finance Jack W. Trifts uses the example of a flip of a coin to illustrate how successful mutual fund management is closer to random luck than it is to skill.

SMITHFIELD, R.I.  - Mutual fund companies regularly imply, implicitly or explicitly, that manager tenure and experience matter but such claims aren't borne out by research conducted by Bryant University Professor of Finance Jack W. Trifts, Ph.D.

In fact, he and Gary E. Porter, Ph.D., associate professor of finance at John Carroll University's Boler School of Business, found that even the best solo mutual fund managers seem to get worse at their craft the longer they practice it.

"We think this occurs because 'superior performance' is really just random luck," Trifts said. "Mutual fund managers who have high performance early in their careers are branded stars while those with poor performance tend to disappear from the industry." But those stars fade: The longer a manager runs a fund, the higher the likelihood of mean reversion setting in, "even for people like Peter Lynch, argued by some to be the greatest fund manager of all time," he said.

To arrive at that conclusion, Trifts and Porter examined data spanning more than 80 years to identify the best solo mutual fund managers and the keys to their success. They also examined the relationship between performance and tenure in a sample of 289 solo managers of 355 actively- managed funds within the nine Morningstar styles. Their findings appear in the latest issue of Journal of Applied Finance (vol. 22, no. 1) in a paper titled "The Best Mutual Fund Managers: Testing the Impact of Experience Using a Survivorship-bias Free Dataset."

Among the paper's findings:

• Solo fund managers who survived more than 10 years were likely to have performed at or above the market in their first three years;
• Managers with tenure of 10 or more years are likely to have significantly poorer performance the longer they mange;
• Although each of the very best managers generated positive compound annual market-adjusted returns following their first three years, the majority were not able to maintain that level of performance.

A .pdf of the paper is available from Bryant University. Contact Tracie Sweeney (tsweeney at bryant.edu) for a copy.

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Keywords: College of Business, finance, investments, Jack Trifts, luck, mutual fund, Research, skill