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Mutual fund performance appraisals: a multi-horizon perspective with endogenous benchmarking

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  • Morey, Matthew R.
  • Morey, Richard C.
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    Abstract

    With over 6500 mutual funds available to investors, industry data show that consumers pay a great deal of attention to the ratings of mutual funds. In spite of this attention, however, much controversy surrounds the various industry approaches to the rating of mutual funds. Many industry rating approaches use subjective weights to integrate fund performances over different time horizons; this can give rise to quite different ratings, depending upon the relative importances assigned to different horizons. In this paper, we present two basic quadratic programming approaches for identifying those funds that are strictly dominated, regardless of the weightings on the different time horizons being considered, relative to their mean returns and risks. This effort can be viewed as a novel application of the philosophy of data envelopment analysis, a relatively new, non-parametric frontier estimation technique which focuses on estimating 'radial' contraction/expansion potentials. These approaches eliminate any need for subjective tradeoffs, vis-á-vis the importance or meaningfulness of performances over the different horizons. Finally, much useful sensitivity information is automatically provided. Also, in contrast to many studies of mutual fund performance, our approaches endogenously determine a custom-tailored benchmark portfolio to which each mutual fund's performance is compared. All of our approaches are illustrated on a sample of twenty-six actual mutual funds.

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    Bibliographic Info

    Article provided by Elsevier in its journal Omega.

    Volume (Year): 27 (1999)
    Issue (Month): 2 (April)
    Pages: 241-258

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    Handle: RePEc:eee:jomega:v:27:y:1999:i:2:p:241-258

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    Related research

    Keywords: Mutual funds Benchmarking Ratings Data envelopment analysis Multi-horizon Risks Quadratic programming;

    References

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    1. Connor, Gregory & Korajczyk, Robert A., 1986. "Performance measurement with the arbitrage pricing theory : A new framework for analysis," Journal of Financial Economics, Elsevier, vol. 15(3), pages 373-394, March.
    2. Grinblatt, Mark & Titman, Sheridan, 1993. "Performance Measurement without Benchmarks: An Examination of Mutual Fund Returns," The Journal of Business, University of Chicago Press, vol. 66(1), pages 47-68, January.
    3. Elton, Edwin J & Gruber, Martin J & Blake, Christopher R, 1996. "The Persistence of Risk-Adjusted Mutual Fund Performance," The Journal of Business, University of Chicago Press, vol. 69(2), pages 133-57, April.
    4. Lehmann, Bruce N & Modest, David M, 1987. " Mutual Fund Performance Evaluation: A Comparison of Benchmarks and Benchmark Comparisons," Journal of Finance, American Finance Association, vol. 42(2), pages 233-65, June.
    5. Meyer, Jack, 1977. "Further Applications of Stochastic Dominance to Mutual Fund Performance," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 12(02), pages 235-242, June.
    6. Mark Grinblatt & Sheridan Titman, . "Mutual Fund Performance: An Analysis of Quarterly Portfolio Holdings," Rodney L. White Center for Financial Research Working Papers 23-88, Wharton School Rodney L. White Center for Financial Research.
    7. Murthi, B. P. S. & Choi, Yoon K. & Desai, Preyas, 1997. "Efficiency of mutual funds and portfolio performance measurement: A non-parametric approach," European Journal of Operational Research, Elsevier, vol. 98(2), pages 408-418, April.
    8. Bruce N. Lehmann & David M. Modest, 1985. "Mutual Fund Performance Evaluation: A Comparison of Benchmarks and Benchmark Comparisons," NBER Working Papers 1721, National Bureau of Economic Research, Inc.
    9. Lewin, Arie Y & Morey, Richard C & Cook, Thomas J, 1982. "Evaluating the administrative efficiency of courts," Omega, Elsevier, vol. 10(4), pages 401-411.
    10. A. Charnes & W. W. Cooper & E. Rhodes, 1981. "Evaluating Program and Managerial Efficiency: An Application of Data Envelopment Analysis to Program Follow Through," Management Science, INFORMS, vol. 27(6), pages 668-697, June.
    11. Jensen, Michael C, 1969. "Risk, The Pricing of Capital Assets, and the Evaluation of Investment Portfolios," The Journal of Business, University of Chicago Press, vol. 42(2), pages 167-247, April.
    12. Ross, Stephen A., 1976. "The arbitrage theory of capital asset pricing," Journal of Economic Theory, Elsevier, vol. 13(3), pages 341-360, December.
    13. Joy, O. Maurice & Porter, R. Burr, 1974. "Stochastic Dominance and Mutual Fund Performance," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 9(01), pages 25-31, January.
    14. Roll, Richard, 1978. "Ambiguity when Performance is Measured by the Securities Market Line," Journal of Finance, American Finance Association, vol. 33(4), pages 1051-69, September.
    15. Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, 03.
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