Trade Less and Exit Overcrowded Markets
Lessons from International Mutual Funds
We study active investment skills in relation to returns to scale in the active mutual fund industry. Using a sample of 13,807 funds from 16 domicile countries investing in 42 equity markets from 2001 to 2014, we find that they achieve negative trading performance on average, driven mainly by particularly low returns to their trades in U.S. equities. Exploring their investment environment, we find convincing evidence of decreasing returns to scale around the world, especially for the U.S. market. Based on theory of optimal fund size, we estimate the optimal size of the active mutual fund industry. We find that the active mutual fund industry in the U.S. has exceeded the optimal level, whereas in international markets, there may still be room for expan- sion. Consistent with this view, we find that mutual fund managers have been gradually reallocating their assets away from the U.S. and more into international equity markets.