IDEAS home Printed from https://ideas.repec.org/a/eee/jfinec/v127y2018i3p567-587.html
   My bibliography  Save this article

Management sub-advising in the mutual fund industry

Author

Listed:
  • Moreno, David
  • Rodríguez, Rosa
  • Zambrana, Rafael

Abstract

This is a study of how contractual mechanisms can mitigate agency conflicts in sub-advised mutual funds. Sub-advising contracts allow fund families to expand their product offerings to include new investment styles and thereby gain market share. We show that costly contractual arrangements, such as co-branding, multi-advising, and performance-based compensation, can mitigate agency conflicts in outsourcing and protect investors from potential underperformance. Fund families will find it cost-effective to implement such incentive mechanisms only when investors are sophisticated in assessing manager skill. The findings help to explain why a large percentage of fund families outsource their funds to advisory firms.

Suggested Citation

  • Moreno, David & Rodríguez, Rosa & Zambrana, Rafael, 2018. "Management sub-advising in the mutual fund industry," Journal of Financial Economics, Elsevier, vol. 127(3), pages 567-587.
    • Handle: RePEc:eee:jfinec:v:127:y:2018:i:3:p:567-587
    DOI: 10.1016/j.jfineco.2018.01.004
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S0304405X18300175
    Download Restriction: Full text for ScienceDirect subscribers only
    File URL: https://libkey.io/10.1016/j.jfineco.2018.01.004?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Elton, Edwin J. & Gruber, Martin J. & Green, T. Clifton, 2007. "The Impact of Mutual Fund Family Membership on Investor Risk," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 42(2), pages 257-277, June.
    2. Kempf, Alexander & Ruenzi, Stefan & Thiele, Tanja, 2009. "Employment risk, compensation incentives, and managerial risk taking: Evidence from the mutual fund industry," Journal of Financial Economics, Elsevier, vol. 92(1), pages 92-108, April.
    3. Diane Del Guercio & Jonathan Reuter, 2014. "Mutual Fund Performance and the Incentive to Generate Alpha," Journal of Finance, American Finance Association, vol. 69(4), pages 1673-1704, August.
    4. Chevalier, Judith & Ellison, Glenn, 1997. "Risk Taking by Mutual Funds as a Response to Incentives," Journal of Political Economy, University of Chicago Press, vol. 105(6), pages 1167-1200, December.
    5. repec:bla:jfinan:v:53:y:1998:i:5:p:1589-1622 is not listed on IDEAS
    6. Judith Chevalier & Glenn Ellison, 1999. "Career Concerns of Mutual Fund Managers," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 114(2), pages 389-432.
    7. Kiviet, Jan F., 1995. "On bias, inconsistency, and efficiency of various estimators in dynamic panel data models," Journal of Econometrics, Elsevier, vol. 68(1), pages 53-78, July.
    8. Kandel, Eugene & Lazear, Edward P, 1992. "Peer Pressure and Partnerships," Journal of Political Economy, University of Chicago Press, vol. 100(4), pages 801-817, August.
    9. R. Preston McAfee & John McMillan, 1986. "Bidding for Contracts: A Principal-Agent Analysis," RAND Journal of Economics, The RAND Corporation, vol. 17(3), pages 326-338, Autumn.
    10. Patel, Saurin & Sarkissian, Sergei, 2017. "To Group or Not to Group? Evidence from Mutual Fund Databases," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 52(5), pages 1989-2021, October.
    11. Vikram Nanda, 2004. "Family Values and the Star Phenomenon: Strategies of Mutual Fund Families," The Review of Financial Studies, Society for Financial Studies, vol. 17(3), pages 667-698.
    12. José‐Miguel Gaspar & Massimo Massa & Pedro Matos, 2006. "Favoritism in Mutual Fund Families? Evidence on Strategic Cross‐Fund Subsidization," Journal of Finance, American Finance Association, vol. 61(1), pages 73-104, February.
    13. Heckman, James J, 1978. "Dummy Endogenous Variables in a Simultaneous Equation System," Econometrica, Econometric Society, vol. 46(4), pages 931-959, July.
    14. Bengt Holmstrom, 1979. "Moral Hazard and Observability," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 74-91, Spring.
    15. HOLMSTROM, Bengt, 1979. "Moral hazard and observability," LIDAM Reprints CORE 379, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
    16. Albert S. Kyle & Hui Ou-Yang & Bin Wei, 2011. "A Model of Portfolio Delegation and Strategic Trading," The Review of Financial Studies, Society for Financial Studies, vol. 24(11), pages 3778-3812.
    17. Holmstrom, Bengt & Milgrom, Paul, 1991. "Multitask Principal-Agent Analyses: Incentive Contracts, Asset Ownership, and Job Design," The Journal of Law, Economics, and Organization, Oxford University Press, vol. 7(0), pages 24-52, Special I.
    18. Blundell, Richard & Bond, Stephen, 1998. "Initial conditions and moment restrictions in dynamic panel data models," Journal of Econometrics, Elsevier, vol. 87(1), pages 115-143, August.
    19. Kawasaki, Seiichi & McMillan, John, 1987. "The design of contracts: Evidence from Japanese subcontracting," Journal of the Japanese and International Economies, Elsevier, vol. 1(3), pages 327-349, September.
    20. Nicolaj Siggelkow, 2003. "Why Focus? A Study Of Intra‐Industry Focus Effects," Journal of Industrial Economics, Wiley Blackwell, vol. 51(2), pages 121-150, June.
    21. Klein, Benjamin & Leffler, Keith B, 1981. "The Role of Market Forces in Assuring Contractual Performance," Journal of Political Economy, University of Chicago Press, vol. 89(4), pages 615-641, August.
    22. Stoughton, Neal M, 1993. "Moral Hazard and the Portfolio Management Problem," Journal of Finance, American Finance Association, vol. 48(5), pages 2009-2028, December.
    23. Daniel Bergstresser & John M. R. Chalmers & Peter Tufano, 2009. "Assessing the Costs and Benefits of Brokers in the Mutual Fund Industry," The Review of Financial Studies, Society for Financial Studies, vol. 22(10), pages 4129-4156, October.
    24. Newey, Whitney & West, Kenneth, 2014. "A simple, positive semi-definite, heteroscedasticity and autocorrelation consistent covariance matrix," Applied Econometrics, Russian Presidential Academy of National Economy and Public Administration (RANEPA), vol. 33(1), pages 125-132.
    25. Douglas L. Kruse & Richard B. Freeman & Joseph R. Blasi, 2010. "Shared Capitalism at Work: Employee Ownership, Profit and Gain Sharing, and Broad-based Stock Options," NBER Books, National Bureau of Economic Research, Inc, number krus08-1.
    26. Clemens Sialm & T. Mandy Tham, 2016. "Spillover Effects in Mutual Fund Companies," Management Science, INFORMS, vol. 62(5), pages 1472-1486, May.
    27. Douglas L. Kruse & Richard B. Freeman & Joseph R. Blasi, 2010. "Do Workers Gain by Sharing? Employee Outcomes under Employee Ownership, Profit Sharing, and Broad-Based Stock Options," NBER Chapters, in: Shared Capitalism at Work: Employee Ownership, Profit and Gain Sharing, and Broad-based Stock Options, pages 257-289, National Bureau of Economic Research, Inc.
    28. Diane Del Guercio & Jonathan Reuter & Paula A. Tkac, 2010. "Broker Incentives and Mutual Fund Market Segmentation," NBER Working Papers 16312, National Bureau of Economic Research, Inc.
    29. Srinivasan Balakrishnan & Birger Wernerfelt, 1986. "Technical change, competition and vertical integration," Strategic Management Journal, Wiley Blackwell, vol. 7(4), pages 347-359, July.
    30. Edwin J. Elton & Martin J. Gruber & Christopher R. Blake, 2003. "Incentive Fees and Mutual Funds," Journal of Finance, American Finance Association, vol. 58(2), pages 779-804, April.
    31. Joseph Chen & Harrison Hong & Wenxi Jiang & Jeffrey D. Kubik, 2013. "Outsourcing Mutual Fund Management: Firm Boundaries, Incentives, and Performance," Journal of Finance, American Finance Association, vol. 68(2), pages 523-558, April.
    32. Steven Shavell, 1979. "Risk Sharing and Incentives in the Principal and Agent Relationship," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 55-73, Spring.
    33. Kruse, Douglas L. & Freeman, Richard B. & Blasi, Joseph R. (ed.), 2010. "Shared Capitalism at Work," National Bureau of Economic Research Books, University of Chicago Press, number 9780226056951.
    34. Holmstrom, Bengt & Milgrom, Paul, 1987. "Aggregation and Linearity in the Provision of Intertemporal Incentives," Econometrica, Econometric Society, vol. 55(2), pages 303-328, March.
    35. C. Wei Li & Ashish Tiwari, 2009. "Incentive Contracts in Delegated Portfolio Management," The Review of Financial Studies, Society for Financial Studies, vol. 22(11), pages 4681-4714, November.
    36. Oleg Chuprinin & Massimo Massa & David Schumacher, 2015. "Outsourcing in the International Mutual Fund Industry: An Equilibrium View," Journal of Finance, American Finance Association, vol. 70(5), pages 2275-2308, October.
    37. Fama, Eugene F & MacBeth, James D, 1973. "Risk, Return, and Equilibrium: Empirical Tests," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 607-636, May-June.
    38. Massa, Massimo & Reuter, Jonathan & Zitzewitz, Eric, 2010. "When should firms share credit with employees? Evidence from anonymously managed mutual funds," Journal of Financial Economics, Elsevier, vol. 95(3), pages 400-424, March.
    39. Arellano, Manuel & Bover, Olympia, 1995. "Another look at the instrumental variable estimation of error-components models," Journal of Econometrics, Elsevier, vol. 68(1), pages 29-51, July.
    40. Del Guercio, Diane & Genç, Egemen & Tran, Hai, 2018. "Playing favorites: Conflicts of interest in mutual fund management," Journal of Financial Economics, Elsevier, vol. 128(3), pages 535-557.
    41. Tom Nohel & Z. Jay Wang & Lu Zheng, 2010. "Side-by-Side Management of Hedge Funds and Mutual Funds," The Review of Financial Studies, Society for Financial Studies, vol. 23(6), pages 2342-2373, June.
    42. Cashman, George D. & Deli, Daniel N., 2009. "Locating decision rights: Evidence from the mutual fund industry," Journal of Financial Markets, Elsevier, vol. 12(4), pages 645-671, November.
    43. Ferreira, Miguel A. & Keswani, Aneel & Miguel, Antonio F. & Ramos, Sofia B., 2012. "The flow-performance relationship around the world," Journal of Banking & Finance, Elsevier, vol. 36(6), pages 1759-1780.
    44. Carhart, Mark M, 1997. "On Persistence in Mutual Fund Performance," Journal of Finance, American Finance Association, vol. 52(1), pages 57-82, March.
    45. Camelia M. Kuhnen, 2009. "Business Networks, Corporate Governance, and Contracting in the Mutual Fund Industry," Journal of Finance, American Finance Association, vol. 64(5), pages 2185-2220, October.
    46. Khorana, Ajay & Tufano, Peter & Wedge, Lei, 2007. "Board structure, mergers, and shareholder wealth: A study of the mutual fund industry," Journal of Financial Economics, Elsevier, vol. 85(2), pages 571-598, August.
    47. Fama, Eugene F. & French, Kenneth R., 1993. "Common risk factors in the returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 33(1), pages 3-56, February.
    48. Starks, Laura T., 1987. "Performance Incentive Fees: An Agency Theoretic Approach," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 22(1), pages 17-32, March.
    49. Hui Ou-Yang, 2003. "Optimal Contracts in a Continuous-Time Delegated Portfolio Management Problem," The Review of Financial Studies, Society for Financial Studies, vol. 16(1), pages 173-208.
    50. Manuel Arellano & Stephen Bond, 1991. "Some Tests of Specification for Panel Data: Monte Carlo Evidence and an Application to Employment Equations," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 58(2), pages 277-297.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Dachen Sheng & Heather A. Montgomery, 2024. "Does Herding and Anti-Herding Reflect Portfolio Managers’ Abilities in Emerging Markets?," Mathematics, MDPI, vol. 12(8), pages 1-28, April.
    2. Cici, Gjergji & Kempf, Alexander & Peitzmeier, Claudia, 2022. "Knowledge spillovers in the mutual fund industry through labor mobility," Journal of Banking & Finance, Elsevier, vol. 134(C).
    3. Gajewski, Jean-François & Tran Dieu, Linh, 2021. "Determinants and performance of outsourcing in the european mutual fund market," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 73(C).
    4. Jean-François Gajewski & Linh Tran Dieu, 2021. "Determinants And Performance Of Outsourcing In The European Mutual Fund Market," Post-Print hal-03221014, HAL.
    5. Cici, Gjergji & Kempf, Alexander & Peitzmeier, Claudia, 2019. "Knowledge spillovers in the mutual fund industry through labor mobility," CFR Working Papers 18-04, University of Cologne, Centre for Financial Research (CFR), revised 2019.
    6. Beggs, William & DeVault, Luke, 2022. "Mutual fund (sub)advisor connections and crowds," Journal of Empirical Finance, Elsevier, vol. 67(C), pages 231-252.
    7. Zambrana, Rafael & Zapatero, Fernando, 2021. "A tale of two types: Generalists vs. specialists in asset management," Journal of Financial Economics, Elsevier, vol. 142(2), pages 844-861.
    8. Genc, Egemen & Shirley, Sara E. & Stark, Jeffrey R. & Tran, Hai, 2023. "Finding information in obvious places: Work connections and mutual fund investment ideas," Journal of Financial Markets, Elsevier, vol. 63(C).
    9. Fulkerson, Jon A. & Hong, Xin, 2021. "Investment restrictions and fund performance," Journal of Empirical Finance, Elsevier, vol. 64(C), pages 317-336.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Sorhage, Christoph, 2014. "Outsourcing of mutual funds' non-core competencies and the impact on operational outcomes: Evidence from funds' shareholder services," CFR Working Papers 14-04, University of Cologne, Centre for Financial Research (CFR).
    2. Casavecchia, Lorenzo & Tiwari, Ashish, 2016. "Cross trading by investment advisers: Implications for mutual fund performance," Journal of Financial Intermediation, Elsevier, vol. 25(C), pages 99-130.
    3. Sorhage, Christoph, 2014. "Outsourcing of mutual funds' non-core competencies," CFR Working Papers 14-04 [rev.], University of Cologne, Centre for Financial Research (CFR).
    4. Evans, Richard Burtis & Prado, Melissa Porras & Zambrana, Rafael, 2020. "Competition and cooperation in mutual fund families," Journal of Financial Economics, Elsevier, vol. 136(1), pages 168-188.
    5. Han, Min-Yeon & Jun, Sang-Gyung & Oh, Ji Yeol Jimmy & Kang, Hyoung-Goo, 2023. "Who should choose the money managers? Institutional sponsors' equity manager performance," Pacific-Basin Finance Journal, Elsevier, vol. 78(C).
    6. Haoyue Zhang & Dayong Lv & Wenfeng Wu, 2022. "Why do bank‐affiliated mutual funds perform better in China?," Accounting and Finance, Accounting and Finance Association of Australia and New Zealand, vol. 62(5), pages 4755-4782, December.
    7. Eisele, Alexander & Nefedova, Tamara & Parise, Gianpaolo & Peijnenburg, Kim, 2020. "Trading out of sight: An analysis of cross-trading in mutual fund families," Journal of Financial Economics, Elsevier, vol. 135(2), pages 359-378.
    8. Servaes, Henri & Sigurdsson, Kari, 2022. "The Costs and Benefits of Performance Fees in Mutual Funds," Journal of Financial Intermediation, Elsevier, vol. 50(C).
    9. Markus Ibert & Ron Kaniel & Stijn Van Nieuwerburgh & Roine Vestman, 2018. "Are Mutual Fund Managers Paid for Investment Skill?," The Review of Financial Studies, Society for Financial Studies, vol. 31(2), pages 715-772.
    10. Del Guercio, Diane & Genç, Egemen & Tran, Hai, 2018. "Playing favorites: Conflicts of interest in mutual fund management," Journal of Financial Economics, Elsevier, vol. 128(3), pages 535-557.
    11. Alexander Eisele & Tamara Nefedova & Gianpaolo Parise, 2015. "Are Star Funds Really Shining? Cross-trading And Performance Shifting In Mutual Fund Families," Post-Print hal-01458357, HAL.
    12. Michel Verlaine, 2022. "Behavioral finance and the architecture of the asset management industry," Journal of Economic Surveys, Wiley Blackwell, vol. 36(5), pages 1454-1476, December.
    13. Alexander Kempf & Stefan Ruenzi, 2008. "Family Matters: Rankings Within Fund Families and Fund Inflows," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 35(1‐2), pages 177-199, January.
    14. Clemens Sialm & T. Mandy Tham, 2016. "Spillover Effects in Mutual Fund Companies," Management Science, INFORMS, vol. 62(5), pages 1472-1486, May.
    15. Chia-Ying Chan & Christine W. Lai & Liang-Chung Lee, 2017. "Strategic Choice of Risk: Evidence from Mutual Fund Families," Journal of Financial Services Research, Springer;Western Finance Association, vol. 51(1), pages 125-163, February.
    16. Gajewski, Jean-François & Tran Dieu, Linh, 2021. "Determinants and performance of outsourcing in the european mutual fund market," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 73(C).
    17. Agarwal, Vikas & Ma, Linlin & Mullally, Kevin, 2015. "Managerial multitasking in the mutual fund industry," CFR Working Papers 13-10 [rev.], University of Cologne, Centre for Financial Research (CFR).
    18. Mason, Andrew & Agyei-Ampomah, Sam & Skinner, Frank, 2016. "Realism, skill, and incentives: Current and future trends in investment management and investment performance," International Review of Financial Analysis, Elsevier, vol. 43(C), pages 31-40.
    19. Cuthbertson, Keith & Nitzsche, Dirk & O'Sullivan, Niall, 2016. "A review of behavioural and management effects in mutual fund performance," International Review of Financial Analysis, Elsevier, vol. 44(C), pages 162-176.
    20. Beggs, William & Hill-Kleespie, Austin & Liu, Yanguang, 2022. "Mutual fund tax implications when investment advisors manage tax-exempt separate accounts," Journal of Banking & Finance, Elsevier, vol. 134(C).

    More about this item

    Keywords

    Outsourcing; Sub-advisor; Mutual funds; Management company; Incentive contracts; Fund performance; Market share; Agency issue;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G20 - Financial Economics - - Financial Institutions and Services - - - General
    • L24 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Contracting Out; Joint Ventures
    • M55 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Labor Contracting Devices

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:jfinec:v:127:y:2018:i:3:p:567-587. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Catherine Liu (email available below). General contact details of provider: http://www.elsevier.com/locate/inca/505576 .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.