Research Question Experimental Design Experimental Results Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment Mikhail Anufriev a Te Bao b Angela Sutan c Jan Tuinstra d a University of Technology Sydney b University of Groningen c Burgundy School of Business d University of Amsterdam ESA, Sydney July 24, 2015 Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Plan Research Question Experimental Design Experimental Results Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Research Topic: Mutual Fund Choice ◮ $30 trillions of assets were invested in mutual funds ◮ 46 , 3% of US households own assets ◮ median value $100 , 000 (data from Investment Company Institute for 2013 year) Q: What are the main factors that drive people’s choice decision? 1. role of fee 2. role of past returns Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Answers from recent empirical literature ◮ Barber, Odean and Zheng (2005): flow of money is negatively correlated with the front-end load but not correlated with operation expenses fee ◮ people avoid paying salient and transparent fee ◮ Khorana and Servaes (2012): front-end load fee funds dominate over operation fee funds ◮ front-end load fee is a commitment device to reduce search cost ◮ Carhart (2007), Gil-Bazo and Ruiz-Verd´ u (2009): fees charged by the fee is negatively correlated with returns ◮ Sirri and Tufano (1998), Choi, Laibson, Madrian and Metrick (2009): past performance of funds and past personal experience affect peoples’ decisions Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Answers from recent experimental literature ◮ Wilcox (2003): too much attention is paid to past performance and to the front-load fee, too little to operational expenses ◮ one period decision, cross-sectional comparison of choices ◮ Choi, Laibson and Madrian (2010): people rely on (irrelevant) information about past realized returns and invest in the high past performance/high fee funds ◮ one period decision, between-treatments comparison ◮ Ehm and Weber (2013, survey): a higher propensity to choose fund with a performance fee (fraction of gains) over operational expenses fee ◮ loss aversion ◮ Bloomfield and Hales (2002): prediction of random walk realization ◮ employ various prediction methods on the basis of patters Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results This paper ◮ sequential decision making on binary choice ◮ known Data Generation Processes for funds A and B ◮ 3 treatments: N o fee, O perational expenses, F ront-end load. ◮ the same optimal choice (invest in B ) in all treatments Main Results: 1. Both the fee structure and uninformative past returns affect decisions 2. No “fee aversion”: subjects are attracted to the fund that has higher gross return but charges a fee. 3. No “salient fee aversion”: front-end load fee and operational fee attract comparable number of subjects in average 4. Front-end load leads to “locking” many (but not all) subjects in the fund with the fee 5. Reinforcement learning from past returns Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Plan Research Question Experimental Design Experimental Results Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results General Settings ◮ Two mutual funds: A and B . ◮ Subjects know the DGP of returns of each fund. E.g., in N : ◮ Net return of A is 0 . 03 + ǫ A,t . Net return of B is 0 . 04 + ǫ B,t . ◮ ǫ A,t and ǫ B,t are i.i.d. shocks that take 0 . 02 and − 0 . 02 with equal probability. ◮ The rational choice is to choose B always. ◮ Subjects have initial wealth, M 0 = 1 , 000 points ◮ Decision: Every period all accumulated wealth can be invested in A or in B or in neither of them. ◮ Subject’s wealth grows by the net return rate of the chosen fund (doesn’t change if neither of the funds has been chosen). ◮ Design: 3 treatments, 3 blocks of DGP with 15 periods each Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Idea behind Treatment Design ◮ Let P X,t be the price of mutual fund X in period t . ◮ DGP assumes the gross return � with probability 1 1 + g X + ε P X,t 2 R X,t = = with probability 1 P X,t − 1 1 + g X − ε 2 ◮ the τ -periods expected return is � � = (1 + g X ) τ . R ( τ ) E t X,t ◮ In treatment O , the operational fee γ X P X,t − 1 is paid: � � R ( τ ) = (1 + g X − γ X ) τ E t O ,X,t ◮ In treatment F , the front-end load fee F X M t should be paid. � � � � R ( τ ) R ( τ ) = (1 − F X ) (1 + g X ) τ E t = (1 − F X ) E t X,t F ,X,t Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Idea behind Treatment Design � 1 + g X + ε w.p. 1 P X,t � � R ( τ ) = (1 + g X ) τ R X,t = = 2 E t , X,t w.p. 1 P X,t − 1 1 + g X − ε 2 � � = (1 + g X − γ X ) τ , � � R ( τ ) R ( τ ) = (1 − F X ) (1 + g X ) τ E t E t O ,X,t F ,X,t ◮ Treatment N: None of the two funds, A and B , require fees. We chose ε = 0 . 02 , g A = 0 . 03 and g B = 0 . 04 so that ε > 1 ε < g A < g B and 2 ( g B − g A ) ◮ Treatment O: Fund A is as before. Fund B gives higher return, g B = 0 . 05 , but requires operating expenses γ B = 0 . 01 . ◮ Treatment F: Fund A is as before. Fund B gives higher return, g B = 0 . 05 , but requires front-end load fee of 0 . 13 . Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Overview of experiment Fund A Fund B � � � � R (14) R (14) Trtmnt E 1 − 1 E 1 − 1 g A g B γ B F B A, 1 B, 1 N 3% 51 . 26% 4% 73 . 17% − − O 3% 51 . 26% 5% 1% 73 . 17% − F 3% 51 . 26% 5% 13% 72 . 25% − Choice B is optimal at every period in N , O and F . Switch to B is optimal in F until period 7 . Participants: 1st year Master students, Burgundy School of Business with 22 / 19 / 35 participants in treatments. Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Price and Return Time Series in the first 15 periods treatment N treatments O and F Returns of investing for 15 periods in A is 45 . 1% ; in B is 86 . 2% Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Price and Return Time Series in the middle 15 periods treatment N treatments O and F Returns of investing for 15 periods in A is 50 . 9% ; in B is 53 . 9% Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Price and Return Time Series in the last 15 periods treatment N treatments O and F Returns of investing for 15 periods in A is 34 . 3% ; in B is 66 . 2% Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Experimental Screen Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
Research Question Experimental Design Experimental Results Testable Hypotheses ◮ N and O differ only in framing. Hypothesis 1. There is no significant difference in subjects’ behavior between treatments N and O . ◮ B is rational choice in all treatments; and there is (almost) no difference in expected return of choosing B between O and F . Hypothesis 2. There is no significant difference in subjects’ behavior between treatments F and O . ◮ return realizations are IID Hypothesis 3. For treatments N and O the fraction of choices for fund B in any particular period is uncorrelated with the realized returns of funds A and B in the previous period. Anufriev, Bao, Sutan & Tuinstra UTS, UoG, UvA & ESC-Dijon Fee Structure, Return Chasing, and Mutual Fund Choice: an Experiment
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