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Mutual Funds R2 as Predictor of Performance

Fri, 15 Feb 2013 08:17:46 GMT

Improving the accuracy of mutual funds' performance prediction is an interesting and endless topic. A paper published in Review of Financial Studies by Amihud and Goyenko (2013) No. 26 (3) investigates this issue at a new angle: Lower R2 indicates greater selectivity, and it significantly predicts better performance. Nice.

Quotation
We propose that fund performance can be predicted by its R2, obtained from a regression of its returns on a multifactor benchmark model. Lower R2 indicates greater selectivity, and it significantly predicts better performance. Stock funds sorted into lowest-quintile lagged R2 and highest-quintile lagged alpha produce significant annual alpha of 3.8%. Across funds, R2 is positively associated with fund size and negatively associated with its expenses and manager's tenure.



Journal paper, Working paper.
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