Mutual Fund Incubation



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    • Richard B. Evans is with Darden Graduate School of Business, University of Virginia. I am grateful for the comments and suggestions of an anonymous referee, an anonymous associate editor, Yiorgos Allayannis, David Chapman, Diane Del Guercio, Roger Edelen, Wayne Ferson, Campbell Harvey (Editor), Greg Kadlec, Marc Lipson, Massimo Massa, David Musto, Jeff Pontiff, Michael Schill, Phil Strahan, participants of the Spring 2009 Q-Group Conference and the 2008 European Financial Management Association Conference, and seminar participants at the University of Massachusetts at Amherst, the University of Virginia, and the Securities and Exchange Commission. I am also thankful for comments and suggestions of participants of the University of Oregon/JFE Delegated Portfolio Management Conference and seminars at Boston College, Darden, Dartmouth, Indiana, Notre Dame, Ohio State, Pittsburgh, Rice, SMU, UNC, and Utah on a previous paper, “Does Alpha Really Matter? Evidence from Mutual Fund Incubation, Termination and Manager Change.” Those comments helped to motivate this work. I am also grateful to Frank Hatheway from NASDAQ for mutual fund ticker creation date data and Claudius Li for excellent research assistance. I am responsible for any remaining errors. A previous version of the paper circulated under the title “The Incubation Bias.”


Incubation is a strategy for initiating new funds, where multiple funds are started privately, and, at the end of an evaluation period, some are opened to the public. Consistent with incubation being used by fund families to increase performance and attract flows, funds in incubation outperform nonincubated funds by 3.5% risk-adjusted, and when they are opened to the public they attract higher flows. Postincubation, however, this outperformance disappears. This performance reversal imparts an upward bias to returns that is not removed by a fund size filter. Fund age and ticker creation date filters, however, eliminate the bias.