Biases in the performance of asset managers

Abstract

This paper illustrates 2 main issues in the performance of asset managers: the first one is that there are large and statistically significant biases in the performance evaluation of mutual funds undertaken by Morningstar and Lipper Analytical Services. The second issue is that managers deviate from their claimed benchmark. We find that, on average, the bias is about 0.7% per annum and, when using a correct procedure to evaluate, managers convert a positive alpha to a negative one in most of the funds. The procedure to provide more accurate performance evaluation also reveals that managers systematically deviate from their claimed asset class. This deviation from asset class is an indication of principal agent conflict. In the attempt to obtain better performance, managers, also called agents, undertake riskier strategies to invest in assets to the detriment of investors who pay the consequences during downturns when their investments drop more than the benchmark. Along the way, managers have earned fees on larger funds than their performance, if correctly measured, would justify. Lack of clarity and information in the A.M. industry allows these conflicts to persist. © Francisco Delgado, Jorge Guillen, 2013.