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Are investors better off when investing with “superstar” fund managers?

Eric Tan - Otago Business School - Accountancy & FinanceYou may think that when a fund manager wins a performance award, the investment fund they manage would fare even better, but University of Otago Business School accountancy and finance researcher Dr Eric Tan has found this isn’t necessarily the case.

The USA-based Fund Manager of the Year (FMOY) award, one of the most important in the industry, recognises fund managers with a proven track record of success in performance. Such an award bestows “superstar” status on the fund manager, but until now little was known about the consequences of being a superstar fund manager. And given the USA mutual fund industry has around US$15 trillion of assets under management, it is important to examine the factors that influence fund performance.

The study looked at fund managers who won the FMOY award in the domestic stock category from 1995 to 2012. Dr Tan looked at the effect of money managers’ status on the subsequent money flows, performance, compensation, and risk-taking behavior of mutual funds.

He found investors responded predictably to that superstar status by investing more heavily - up to six months following the FMOY award. However, more-often-than-not, that drives down the fund’s subsequent performance - award-winning managers on average underperform by 3.08% in the 12 months following the announcement of the FMOY award. The effect can last for as long as three years before bouncing back.

Dr Tan says those funds enjoyed disproportionately large new money inflows, but this sharp increase in investment could create “diseconomies of scale” making the fund suddenly harder to manage.

The study found that award-winning managers extract higher compensation after receiving the award. The study also showed winning is not associated with higher risk-taking behaviors in these managers than their non-winner counterparts.

Dr Tan is keen to see if these findings are similar in Australia and New Zealand investment funds.

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