Testing the Berk and Green model around the world

Antonio F. Miguel, Lisbon University Institute

25th Jan 2013  11:30 am - Room 214/215 Economics and Business Building

Abstract: The fund management model of Berk and Green predicts that fund performance will not persist. This is because when investment is channelled to the top performing funds, this reduces their future performance as the model assumes decreasing returns to scale in fund management. However, when we examine fund industries from 27 countries we find that in more than two thirds of the industries there is statistically significant persistence. We reconcile these findings in the following way. In our sample the majority of countries do not have decreasing returns to scale which is assumed by the Berk and Green model. If we allow the Berk and Green model to have constant or increasing returns to scale then persistence stays the same or is enhanced as funds grow. We show that such a Berk and Green model with a flexible returns to scale investment technology explains variation in the dynamics of persistence as funds grow across the countries in our sample. The majority of countries not having decreasing returns to scale explains why persistence is present in most countries in our sample. We show that returns to scale differences across countries may be explained by mutual fund industry development.