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Scale and skill in active management

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  • Pástor, Ľuboš
  • Stambaugh, Robert F.
  • Taylor, Lucian A.

Abstract

We empirically analyze the nature of returns to scale in active mutual fund management. We find strong evidence of decreasing returns at the industry level. As the size of the active mutual fund industry increases, a fund׳s ability to outperform passive benchmarks declines. At the fund level, all methods considered indicate decreasing returns, though estimates that avoid econometric biases are insignificant. We also find that the active management industry has become more skilled over time. This upward trend in skill coincides with industry growth, which precludes the skill improvement from boosting fund performance. Finally, we find that performance deteriorates over a typical fund׳s lifetime. This result can also be explained by industry-level decreasing returns to scale.

Suggested Citation

  • Pástor, Ľuboš & Stambaugh, Robert F. & Taylor, Lucian A., 2015. "Scale and skill in active management," Journal of Financial Economics, Elsevier, vol. 116(1), pages 23-45.
  • Handle: RePEc:eee:jfinec:v:116:y:2015:i:1:p:23-45
    DOI: 10.1016/j.jfineco.2014.11.008
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    Keywords

    Returns to scale; Skill; Active management; Mutual funds;

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • J24 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Human Capital; Skills; Occupational Choice; Labor Productivity

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