Abstract
Financial scandals permeate the news. The mutual fund scandal was one of the biggest financial news stories in the early part of the last decade and the largest in the 65-year history of mutual funds. Many fund companies—totaling more than 1,000 funds and $1 trillion in assets—were investigated for late trading and market timing allegations. This study empirically examines the effects of a large-scale scandal on investor behavior, investor reaction, and fund performance. The authors find that although equity funds involved in a scandal performed well before and after the scandal period, these same funds significantly underperformed their peers during the scandal period, even after adjusting for market effects and fund characteristics, and in spite of increasing their own risk profiles. Specifically, funds involved in scandals experienced performance declines of more than 80 basis points per year. This finding suggests the existence of a meaningful and significant “distraction” penalty for fund families, and ultimately investors. Funds involved in scandals experienced a significant reduction in flows that continued during the post-scandal period, averaging nearly 20% of the affected fund’s customer base. The authors attribute this decline in flows to an increase in monitoring costs for investors—a so-called “scandal tax.” Funds involved in investigations that were announced later in the scandal period experienced a much smaller exodus. They also find that retail investment channel flows continued to exit affected funds regardless of post-scandal performance, whereas institutional channel flows returned to funds that performed well post-scandal. Finally, a subsequent reduction in expenses charged to investors was not effective in re-attracting flows to affected funds.
Talk to us
Join us for a 30 min session where you can share your feedback and ask us any queries you have