Smart Money in Malaysian Islamic and Conventional Equity Funds

Abstract

This paper undertakes a comparative analysis of the smart money effect in mutual funds - whereby investors are able to identify funds that subsequently perform well - in Malaysian Islamic and conventional domestic equity funds. We find that Islamic equity fund investors are unable to identify funds that will outperform benchmarks in the future. However, these same investors have some ability to identify poorly performing funds and relocate their funds accordingly. This contradicts our findings regarding their conventional counterparts, such that conventional equity fund investors are generally able to identify better performing funds and modify their investments in light of this information. The main key implications are as follows. First, Islamic equity investors naively chasing recently highly performing funds only incidentally benefit from mutual fund momentum strategies. Second, fund managers may be able to take advantage of a ‘dumb money’ effect found among Islamic equity fund investors in that they appear most concerned with only very poor performance in determining the flow of funds, not so much a lack of superior performance. Finally, high search costs may be one reason why investors naively chase past better performing funds.