Can Mutual Fund 'Stars' Really Pick Stocks? New Evidence from a Bootstrap Analysis

We apply an innovative bootstrap statistical technique to examine the performance of the U.S. equity mutual fund industry during the 1962 to 1994 period. Using this new method, we bootstrap the distribution of the performance measure (the “alpha”) across mutual funds to determine whether funds with the best alphas are simply lucky, or whether managers of these funds possess genuine stockpicking skills—this bootstrap technique is necessary because of the complicated form of the distribution of alphas across funds and the non-normal nature of individual funds’ alphas. Our results indicate that, controlling for luck, fund managers that pick stocks well enough to more than cover their costs do exist. That is, the distribution of alphas computed from bootstrapped fund returns (and assuming that no stockpicking talent exists) has a much smaller right tail than the distribution of alphas computed from actual fund returns. Unfortunately for investors, our bootstrap results also show strong evidence of funds with significant inferior performance. Further, our evidence suggests that stockpicking skills are most clearly evident among growth-fund managers. In general, our study supports the value of active mutual fund management, although it also highlights the drawbacks of funds actively managed by those who cannot pick stocks.