Literature Review On Consumer Fund Investments Finance Essay
(Sirri, Peter 1998) Consumers are fee-sensitive in that lower-fee funds and funds that reduce their fees grow faster. There is mixed evidence that consumers are sensitive to the expost risky ness of fund investments. The mutual fund investors are generally unable to assess the trade off between different fees charged by mutual funds. The negative relation between fund flows and total fund expenses.
(Ivkovic , Scott 2009) The most striking finding is that individuals fund level inflows and outflows are each positively related to expense ratios where as higher expenses may attract more new money through advertising or a perception that higher expenses reflect better managerial talent or fund family services.The high expense ratios (an on going, not-in-your-face cost) are associated with a substantial increase in the probability of redemption, particularly if the expense ratio has increased since the investor purchased the fund
(Barber,etal ,2005)The effects that investment costs such as expenses and loads might have on mutual fund net flows.However,as with fund performance,useful insights may be gleaned by breaking net flows into their two components.Forexample,expense ratios might have only a modest relation with netflows,yet could have strong positive effects bothon‘‘new’’money flowing into the fund .The fund family typically charges a fixed percentage management fee on its assets under management, the fund family profits from funds that reach a top position by the end of the year and eventually attract new inflows.However,the fund manager also benefits from reaching at opposition by the end of the year since a fund managers compensation typically depends on past performance as well as on the size of the fund managed.
(Russ Wermers, 2000)The high turnover funds, although incurring substantially higher transactions costs and charging higher expenses, also hold stocks with much higher average returns than low turnover funds. At least a portion of this higher return level is due to the better stock-picking skills of managers of high-turnover funds.The mutual fund into that attributable to (1) skills in picking stocks that beat the returns on the portfolio of all stocks having the same characteristics, (2) returns that are attributable to the characteristics of stock holdings, (3) trade-related costs of implementing the manager's style and stock- picking program, (4) fund expenses incurred and fees charged for managing the portfolio, and (5) differences between gross stock portfolio returns and net fund returns that are due to holdings of cash and bonds versus stocks by the fund
(O'Neal, 1999). Most front-end-load shares also incur an annual distribution fee, the 12b-1 fee. The distribution fee expressed as an annual percentage, is deducted periodically from the net assets of the fund and paid to the fund distributor.The distributor then generally pays the broker most or all of this fee. Because the 12b-1 fee is based on the net assets at the time it is deducted, a brokers compensation from distribution fees will vary directly with the net asset value of the fund
(O'Neal, 2004)Most striking is the stronger relation between redemption and purchase rates exhibited by load funds and the greater reliance by load fund investors on previous performance. These findings indicate either that a larger subset of load fund than no-load investors engage in performance oriented mutual fund trading, or that in the aggregate, load fund investments are more performance driven
(Barber,etal, 2005)The negative relation between a fund’s operating expense ratio and performance Thus, it is sensible for investors to eschew the purchase of funds with high operating expenses. Generally, investors pay fees to mutual funds through operating expense ratios applied to assets under management or through load fees charged when investors purchase (or less commonly sell ) a mutual fund.When purchasing funds through a broker, investors pay a commission to the broker for some mutual funds, but not for others, which are designated as nontransaction fee (NTF) funds. The Load fees and operating expenses are not perfect substitutes.Although low expense funds have higher front-end-load fees than high expense funds, the relation between expenses and front-end loads is far from monotonic. In addition, front-end-load funds have higher average expense ratios than funds without front-end loads.
(Lee,etal, 1999)The relationship between risk adjusted mutual fund returns and the costs of research (the expense ratio) and costs of trading (turnover) that are associated with active investment management are conflicting.Growth in the size of net assets initially provides cost advantages because growth increases net returns. That is, because transaction volume is relatively larger for the larger funds, brokerage commissions on the execution of trades for large firms are lower. In addition, the costs of access to data, research services, and support, as well as administrative and overhead expenses, do not rise in direct proportion to fund size. Expense ratios and turnover data reflect the explicit transaction costs associated with research and trading on information. Individuals investing in mutual funds are predominantly passive, uninformed investors, and expense ratios are the costs they pay investment managers to become informed. The expense ratio is the portion of the funds assets paid for operating expenses and management fees, including 12b-1 fees, administrative fees, and other asset based costs incurred by the fund but excluding brokerage costs.
(Carhart, 1997)Mutual fund managers claim that expenses and turnover do not reduce performance, since investors are paying for the quality of the manager's information, and because managers trade only to increase expected returns net of transactions costs. Thus, expenses and turnover should not have a direct negative effect on performance, as implied in the previous section, but rather a neutral or positive effect. I evaluate this claim by directly measuring the marginal effect of these and other variables on abnormal performance. The expense ratios, portfolio turnover, and load fees are significantly and negatively related to performance. The investment costs of expense ratios, transaction costs, and load fees all have a direct, negative impact on performance.
(J. Barclay etal,1998)The mutual funds fee structure increases with fund size. The fund manager attempting to maximize the present value of the fees has incentives to maximize the size of the fund. Mostly the fund managers will pursue policies, including tax management strategies, that attract new
investors and retain existing investors.Funds with higher fees and expenses have higher growth rates. This may be due to the fact that some marketing expenses (12b-1 fees) are included among
the expenses, and other marketing costs are borne by the manager and reflected in the management fee.
(Grinblatt ,Sheridan ,1994)The performance between funds are due to differences in transaction costs. If transaction costs are important, we expect significant negative estimates for the fees, expenses, and turnover coefficients, and significant positive estimates for the net asset value and load coefficients, since large funds or funds whose marketing expenses are borne by brokers collecting load-related commissions may economize on transaction costs. The negative coefficient on net asset value if small funds have less impact on the market with their buy and sell orders than do large funds. The coefficient on net asset value may also provide insights about survivorship bias in the sample, which could induce a negative correlation between net asset value and performance. Positive coefficients on fees and expenses would be indicative ofthe existence of performance. If investors were aware that a fund manager was capable of earning abnormal returns, they would be willing to compensate the manager with higher fees and expenses (which might provide nonpecuniary benefits). A positive coefficient on turnover would also be indicative of the existence of superior performance, implying that better managers trade more to take advantage of their superior information.The determinants of mutual fund performance analyzed whether performance, as measured by the only reliable benchmark, the P8 benchmark, is related to fund size, expenses, management fee, portfolio turnover, and load. The researcher examine the performance which is positively related to portfolio turnover, but not to the size of the mutual funds or to the expenses that the funds generate.
(A. Warther, 2000)The open-end funds targeting the more sophisticated investors, the average return on load funds will be higher than that of no-load funds.The average rate of return on open-end load funds need not be greater than that of no-load funds.The empirical evidence on the performance of different fund has difference of performance between load and no-load funds.The model also predicts that management fee size will not necessarily be related to fund performance.This result provides a rationale for the empirical evidence, and is a consequence of the fact that funds catering to investors with low liquidity needs attract investors by offering lower management fees and higher expected returns. Another prediction is that the minimum loads charged by open-end funds will be positively related to the rate of return investors expect from such funds.The performance of funds catering to sophisticated investors with low liquidity needs will provide the highest expected return.These funds want to attract low liquidity investors who are relatively scarce in number and impose no sales and service costs on the fund. Funds that cater to sophisticated investors with high liquidity needs, which are structured as no-load funds, and funds that attract unsophisticated investors with low liquidity needs will also provide positive expected returns. These positive expected returns reflect investor scarcity as well as savings in sales and service costs. The expected return to unsophisticated investors with low liquidity needs is lower than that offered to sophisticated investors with low liquidity needs, due to the sales and service charges incurred by funds seeking to access and service the former types.
(S. Weisbach ,1998)The fund managers might use to mitigate the tax consequences of withdrawals. It seems likely that front- and back-end loads will increase the expected holding periods of the investors attracted to the fund. The front and back end loads have an important effect on the tax policies of mutual funds, the effect will likely come from the effect of the loads on the net inflow process. Loads will probably have the beneficial effect of reducing the volatility of net inflows by discouraging short-term trading. While it seems clear that back-end loads will discourage outflows, they will also discourage inflows. Thus, the effect on the expected growth rate is unclear
(M. Edelen,1999)The cost of brokerage commissions and other operational costs of trading are almost certainly material in comparison to the asymmetric information costs .These additional costs associated with liquidity-motivated trading can only exaggerate the negative a performance associated with liquidity-motivated trading. Thus, a more complete test, using fund returns net of fees, expenses, and brokerage commissions, should indicate stronger effects than a test using gross returns.The issue of gross versus net returns is also relevant to the analysis of discretionary trading. The predicted positive relation between abnormal returns and the volume of discretionary trading arises in the absence of out-of-pocket costs associated with information production or trading. the relation between discretionary trading and abnormal returns should be more easily detected using gross returns than using net returns. A positive relation with net returns is predicted only if fund managers pass on to investors the gains associated with superior information production.
( Jeffrey D. Kubik, 2004)The effect of fund size on fund returns is most pronounced for funds that play small cap stocks. This suggests that liquidity is an important reason why size erodes performance. The size of a funds family does not significantly erode fund performance and how does performance depend on the size or asset base of the fund? A better understanding of this issue would naturally be useful for investors, especially in light of the massive inflows that have increased the mean size of funds in the recent past. The persistence of fund performance depends crucially on the scale ability of fund investments . The hypothesis that fund size erodes performance because of trading costs associated with liquidity and price impact. The researcher examine that fund size matters much more for the returns among such funds, identified as "small cap" funds in our database, than other funds. This finding strongly indicates that liquidity plays an important role in the documented diseconomies of scale.The performance declines with fund size and the importance of liquidity in mediating this inverse relationship. The adverse effect of scale on performance need not be inevitable because that family size actually improves fund performance. The funds performance is inversely correlated with its lagged assets under management.
(Matt Pinnuck, 2003) The mutual fund investors are relatively uninformed, the case may be that trademarks and other mass-marketing related goodwill are significantly more important than specific fund performance. Holding asset class or portfolio strategy characteristics constant, what are the determinants of mutual fund marketing charges? More specifically, given that up-front marketing charges (i.e., loads) are not well explained by past or future performance, what other factors determine the ability to charge up-front marketing charges? what factors increase sales revenue more than their marginal cost? Generally, the level of informedness of the investor and the size of investment determine the increase in sales revenue. A well-informed investor would be expected to stress traditional performance criteria, whereas a less informed investor might value non-performance related investor services and image more highly than other criteria trade off all marketing costs (front-end loads, annual fees, and deferred charges) of the mutual funds they are examining. The marketing charges do not add any real value to the financial performance of mutual funds, and the risk-averse rational investor faces a trade-off between return and risk.
(John Kihn ,1996)The net return level fund managers do not out perform the benchmark and do not deliver superior returns to unit holders. The fund managers hold and trade in stocks that outperform their characteristic benchmarks.The difference between the average performance of the fund stock holdings and that of fund net returns is similar to the difference. This difference for U.S. mutual funds trade related costs of implementing the managers style and stock picking program, fund expenses incurred and fees charged for managing the portfolio, and the poor performance of the non-stock holdings of the funds cash and bonds during the period.
Tremendous amount of work have been done on the performances of open ended funds and on the investment companies during last five decades and generally on average the results found out that equity mutual funds, bonds and international equity funds underperformed on a risk adjusted basis. Keown, and Farrell (1982) found that portfolio risk and return are positively correlated, and that the fund’s stated investment objective and portfolio risk are positively related too. Moreover, the effect of mutual fund fees and expenses has also been studies by various scholars. Generally, mutual funds outperform their relevant indexes on a gross return basis, i.e., before fund’s fees and expenses. However in the Net return form (when fees and expenses are considered), mutual funds underperformed the market averages. These findings applied for domestic equity funds, bond funds, and international mutual funds. These are the common opinions of different scholars and intellectuals of all time famous in the field of finance and equity market research (Lehmann and Modest, 1987; Cumby and Glenn, 1990; Bailey and Lim, 1992; Blake, Elton, and Gruber, 1993; Daniel, Grinblatt, Titman, and Wermers, 1999; Wermers, 2000; and Shukla, 2004).
Past studies also identify that equity and bond fund have higher returns from lower expense ratios and lower portfolio turnover. (Carpenter, 1991; Hooks, 1996; Carhart, 1997; Bogle, 1998; Reichenstein, 1999; and Shukla, 2004). These finding also suggests that active portfolio management lowers the portfolio performance and hit adversely the investor’s interest of gaining high returns.
(Carpenter, 1991) observed that aggressive growth and balanced funds suffer less from effect of expense ration than growth and income funds. He identified that “a doubling effect on a 2% expense ratio could reduce shareholder returns by almost half in an average year“ further more he identified that “every time a portfolio is completely turned over, investor gave up 0.4% in net return”
Wermers (2000), on the other hand, supports the value of active management because he finds that mutual funds generally pick stocks well enough to cover costs, and that high turnover funds beat the passive Vanguard Index. On a net return basis, however, Wermers’s (2000) results indicate that mutual funds underperform broad market indexes by 1% per year because of lower returns of their non-stock holdings and because of expense ratio and transaction costs of portfolio turnover. Wermers (2000) attributed this poor performance entirely to mutual fund holdings of cash and bonds. Considering only their stock holdings, mutual fund managers hold stocks that beat their benchmark indexes. Moreover, Wermers (2000) finds that mutual funds, although incurring substantial transaction costs and charging higher expenses, also hold stocks with much higher average returns than lower turnover funds. These results ignore the higher tax burden of actively managed, high turnover, mutual funds. Further, Hooks (1996) finds that load funds with low expenses outperform high expense no-load mutual funds. For funds with similar expenses however, the load funds do not produce returns sufficient to offset the load. Haslem, Baker and Smith (2008) find that top performance investment, typically, occurs among huge funds with minimum expense ratios, trading activity, and no load or low load.
According to the Investment Company Institute (ICI) 2009 Mutual Fund Fact Book, the number of mutual fund shareholder accounts rose from just 12 million in 1980 to about 265 million in 2008, and most of these shareholders are invested in lower cost funds with above average long-term performance. These investors demand a competitive level of fees and expenses. The ICI states that mutual funds manage about 20% of household financial assets in competition with other financial intermediaries including commercial banks, insurance companies, and hedge funds. In view of the fact that high expenses severely damage the mutual fund performance and because fund shareholders are keenly aware of this, the ICI findings of a declining trend in expense ratios should be well received by investors. Further, the Fact Book states that from 1999 to 2008, more than 103% of the net cash flowing to stock funds went to those funds whose expense ratios didn’t meet the average. Funds with above average expense ratios experienced outflows. The decline in the average fund expense ratios from 2.32% in 1980 to 0.99% in 2008 is likely predictive of better mutual fund investment performance. According to the ICI (2007 Mutual Fund Fact book, page 4), the lower average expense ratios on stock funds implies considerable cost savings for fund investors, and estimates that investors’ savings is in the order of several billions of dollars per year.
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