A new Morningstar analysis finds no relationship between fund manager changes and future returns – but there are impacts.
“A management change is not predictive of a performance downturn,” notes Quantitative Analyst Madison Sargis and Kai Chang, Director of Quantitative Research at Morningstar. “In fact, there is zero relationship between a management change and future returns over the next month up to the next three years,” a finding that they say holds true for all different types of management changes. “No matter which way we sliced the data, we found statistically no relationship between future performance and adding or removing a single manager or an entire team.”
In “The Aftermath of Fund Management Change,” Sargis and Chang explain that since January 2003, in the U.S. actively managed equity and fixed-income space, an average of 244 funds each month have undergone some form of a manager change – i.e., new managers are added or tenured managers are removed. While those funds account for less than 1% of fund offerings, they represent on average $220 billion in assets under management, according to the report.
Of course, as the report notes, running a fund is much more team-driven today than in the past. The report explains that 75% of actively managed U.S. equity and fixed-income funds are run by teams, and that even among the remaining 25%, even where a single manager is listed, they are supported by a research staff “with strict processes and restrictions for what stocks fit into their narrow mandate.” All this means that funds are able to maintain their consistency even when one of the names at the top changes.
Time Travails?
It’s also possible that the impact of management changes takes a while to show up. Sargis and Chang considered that, and found that management changes up to 12 months in the past were statistically insignificant, and that while management changes 13-24 months prior were statistically significant, they were economically insignificant. The average fund with a management change 13-24 months prior had negligible positive impact on returns. “No matter which way we looked at the data, on average, a management change will not alter the performance of a fund,” they report.
Not that there wasn’t an impact. Morningstar found that not only do investors overreact to fund-management changes, “but in fact, the investor reaction strengthens through time, persisting up to 36 months after the event.” This, the authors say, represents an investor behavior gap, in that investors react to an event that, on average, does not change the status quo: “Our study suggests investors use management change, all else equal, as a signal to divest when they otherwise should not do so.”
The authors note that previous studies have shown that investors follow performance, and that since this paper finds that management change does not alter performance trajectory, the effect of investors’ overreaction to management changes is “above and beyond any relationship to poor returns.”
Withdraw Draws
Investor response does, in fact, penalize funds with management changes by withdrawing money. When a management change occurred within the prior three months, the average fund will experience outflows resulting in 2.0, 2.5, 2.3, 2.6 and 1.7 lower category percentile growth rates over the next 1, 3, 6, 12 and 36 months, respectively, according to the report. Moreover, the effect is persistent; funds experiencing management changes more than a year ago still experience lower growth rates. “Any way we looked at the data, funds with management changes experience sustained periods of outflows,” according to the report. “Investors continue to withdraw money from funds even though there is no change in fund performance.”
Leaving Large
And when there is a management change, the authors found that the largest funds experience the most outflows – even though they are no less likely to perform differently than their smaller peers, investors penalize larger funds more by withdrawing money from the fund at faster rates than in small funds. This, the authors note, might be attributable to the disproportionate attention that larger funds receive.
Nor did there appear to be any relationship between industry tenure, management change and subsequent flows.
Noting that the fund industry has matured, Sargis and Chang observe that “…funds no longer live and die by their managers,” concluding that the mutual fund industry handles succession planning far better than investors react to such changes.
The report does caution that the majority of flows are not due to the actions of the retail investor, but are directed by the result of what the authors describe as a “complex interaction between an advisor, an institution, and a platform.”
