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Stale Prices and the Performance Evaluation of Mutual Funds

Published online by Cambridge University Press:  10 December 2010

Meijun Qian
Meijun Qian*
Affiliation:
National University of Singapore, Business School and Risk Management Institute, 15 Kent Ridge Dr., MRB 07-66, Singapore, 119245. bizqmj@nus.edu.sg
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Abstract

Staleness in measured prices imparts a positive statistical bias and a negative dilution effect on mutual fund performance. First, evaluating performance with nonsynchronous data generates a spurious component of alpha. Second, stale prices create arbitrage opportunities for high-frequency traders whose trades dilute the portfolio returns and hence fund performance. This paper introduces a model that evaluates fund performance while controlling directly for these biases. Empirical tests of the model show that alpha net of these biases is on average positive although not significant and about 40 basis points higher than alpha measured without controlling for the impacts of stale pricing. The difference between the net alpha and the measured alpha consists of 3 components: a statistical bias, the dilution effect of long-term fund flows, and the dilution effect of arbitrage flows. Whereas the former 2 components are small, the latter is large and widespread in the fund industry.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 46 , Issue 2 , April 2011 , pp. 369 - 394
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2011

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