Strategic Thought Transformation - The IIPM Think Tank

M U T U A L F U N D S
Though it might seem extreme, some mutual fund managers
are clearly uneducated. An educated mutual fund
manager can make all the difference in your portfolio
Professor Aron A. Gottesman,
Lubin School of Business, Pace University, New York
The mutual fund industry in India is
booming. According to a recent Wall
Street Journal report, the industry
has nearly doubled in size over the past
three years, with approximately $48 billion
US under management. With numerous
firms in the Indian mutual fund industry,
each offering different funds, the Indian
investor has an unprecedented opportunity
to grow their portfolios and reap
the benefits of India’s explosive economic
growth. At the same time, however, mutual
fund investors face a bewildering array of
marketing claims and fund characteristics.
Investors must navigate treacherous waters
when deciding on which mutual funds to
invest - and which to avoid.
Unfortunately, when selecting a mutual
fund, some investors don’t act very wisely.
Instead of investigating their choices thoroughly,
they rely on tips, rumors, news
headlines, or marketing material provided
by the mutual fund. The willingness of
many to use this approach is likely driven
by the confusion that investors experience
when choosing a fund; with all of noise
that the fund-industry creates, many find
it difficult to differentiate between highand
low-quality funds, and rely on rumors
and advertisements instead. This approach,
admittedly, has the benefit of not requiring
the investor to expend much effort. But it
doesn’t seem to be a particularly sophisticated
investment approach.
What’s the alternative This is a question
that academic finance researchers
have explored for decades, through scrutinizing
past mutual fund performance to
determine the factors that make a mutual
fund attractive. This research, which uses
Mutual fund
managers face the
daunting task of
earning superior
returns in a highly
competitive
environment
proven statistical methods and is published
in reputable finance journals, typically identifies
factors that are observable to investors
at the beginning of a predefined time
period, and examines if investments made
on the basis of these factors are related to
the subsequent return performance. For example,
researchers have found that funds
with lower expenses outperform funds with
higher expenses; that passively managed
index funds outperform actively managed
funds; that funds with higher turnover outperform
funds with low turnover; and that
performance may be related to fund ratings,
among other factors. While fund performance
can never be predicted with certainty,
these studies provide guidance that a serious
investor would be foolish to ignore.
In this article, I will focus on one mutual
fund performance factor that has only
recently begun to receive attention by researchers:
the quality of the mutual fund
manager’s education.
Does manager education make
a mutual fund attractive
Mutual fund managers face the daunting
task of earning superior returns in a
highly competitive environment. Their
performance is closely scrutinized by investors,
their superiors, other managers,
and the press. Measures of mutual fund
performance are adjusted for risk and are
easily comparable; hence any failure relative
to the selected benchmarks is quickly
identified and critiqued. “Superstars” are
celebrated, while those that fail to meet
expectations find their careers wounded.
But what makes one manager a superstar
and another a failure Successful
managers may have a natural talent
for investing, while others benefit from
working for a well run mutual fund company.
Some would argue that luck plays
an important role. But beyond natural
talent and luck, another obvious factor to
consider is whether the manager’s education
plays a role in performance. In other
words, can one learn how to be a good
mutual fund manager, or are these skills
unteachable
Many mutual fund managers are certainly
highly educated, with more than half
holding a Master of Business Administration
(MBA) degree, approximately half holding
the Chartered Financial Analyst (CFA) designation,
and approximately one third holding
other graduate degrees. Among managers
holding MBAs, approximately 40% hold
MBAs from top-tier business schools. Does
all of this education make a difference
STRATEGIC INNOVATORS