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The Impact of Mutual Fund Family Membership on Investor Risk

Published online by Cambridge University Press:  06 April 2009

Edwin J. Elton ,
Martin J. Gruber  and
T. Clifton Green
Edwin J. Elton
Affiliation:
[email protected], Stern School of Business, New York University, 44 W 4th St, Ste 9–190, New York, NY 10012
Martin J. Gruber
Affiliation:
[email protected], Stern School of Business, New York University, 44 W 4th St, Ste 9–190, New York, NY 10012
T. Clifton Green
Affiliation:
[email protected], Goizueta Business School, Emory University, 1300 Clifton Rd, Atlanta, GA 30322.
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Abstract

Many investors confine their mutual fund holdings to a single fund family either for simplicity or through restrictions placed by their retirement savings plan. We find evidence that mutual fund returns are more closely correlated within than between fund families. As a result, restricting investment to one fund family leads to a greater total portfolio risk than diversifying across fund families. We examine the sources of this increased correlation and find that it is due primarily to common stock holdings, but is also more generally related to families having similar exposures to economic sectors or industries. Fund families also show a propensity to focus on high or low risk strategies, which leads to a greater dispersion of risk across restricted investors. An investor considering adding an additional fund, either in the same family or outside the family, would need to believe the inside fund offered an extra 50 to 70 basis points to have the same Sharpe ratio.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 42 , Issue 2 , June 2007 , pp. 257 - 277
Copyright
Copyright © School of Business Administration, University of Washington 2007

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