Mutual Funds’ Performance, Expense Ratios, and Inflows: Evidence and Implications for Policy

Abstract

Previous research connects mutual fund fees and inflows and also suggests that better-performing funds attract higher inflows. In this article, the author further analyzes the relationship between funds’ performance, the expenses they charge, and the inflow they attract. The analysis results suggest that funds that perform similarly and charge similar expenses attract higher inflows if they reduce their expense ratios. In addition, funds that charge low expense ratios attract similar or higher inflows compared with better-performing funds that charge higher expenses. Moreover, funds that reduce their expense ratio relative to their preceding year’s expense ratio attract higher inflows than better-performing funds that reduce their expense ratio by a lower magnitude. The author finds that this investment strategy in past best-performing funds achieves positive risk-adjusted excess returns.