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Unskilled fund managers: Replicating active fund performance with few ETFs

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  • Moraes, Fernando
  • Cavalcante-Filho, Elias
  • De-Losso, Rodrigo

Abstract

This paper uses Exchange Traded Funds (ETFs) instead of risk factors as benchmarks to examine active mutual fund performance distribution. While transaction costs are included in the ETF returns, that is not true regarding risk factors, making it more challenging to characterize extraordinary performances via alphas. Assessments are based on the estimation of the skilled funds proportion defined by Barras et al. (2010). After evaluating several ETF combinations, we conclude that sets of 3 to 5 ETFs replicate most levels of active fund performance. Finally, we propose specific ETF selection algorithms, whereby we estimate that 95% of active management funds fail to generate value for their investors. Alphas calculated with ETFs are higher than those using risk factors, and the difference is similar to the transaction costs required for investing in risk factor portfolios (Frazzini et al. (2012)).

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  • Moraes, Fernando & Cavalcante-Filho, Elias & De-Losso, Rodrigo, 2021. "Unskilled fund managers: Replicating active fund performance with few ETFs," International Review of Financial Analysis, Elsevier, vol. 78(C).
    • Handle: RePEc:eee:finana:v:78:y:2021:i:c:s105752192100226x
    DOI: 10.1016/j.irfa.2021.101900
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    More about this item

    Keywords

    Mutual funds; Performance measures; ETF; Risk factors;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G2 - Financial Economics - - Financial Institutions and Services
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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