Enhanced Performance Measurement of Mutual Funds: Running the Benchmark Index through the Hurdles

Costa, Bruce A.; Jakob, Keith
March 2010
Journal of Applied Finance;2010, Vol. 20 Issue 1, p95
Academic Journal
The Carhart four-factor model is the most widely used risk-adjusted performance metric for mutual fund returns. Recent papers find the four-factor model generates significant alphas and factor loadings for unmanaged stock market indexes. In this paper, we introduce a new methodology to eliminate problems with the four-factor model. We compute alphas for a relevant benchmark index and 211 Large Capitalization and Growth Funds. We perform pair-wise F-tests between the alphas and the coefficients of the benchmark and the mutual funds in question. We determine whether each mutual fund's alpha and factor loadings are statistically different from the alpha and factor loadings of the index. Our findings reveal whether the manager has truly outperformed the index and whether the portfolio management strategy has significantly deviated from the benchmark's asset allocation.


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