Do lower-class mutual fund managers outperform those from wealthier backgrounds?

That is my latest Bloomberg column, here is one bit:

…new evidence on mutual fund managers suggests that the managers from poorer backgrounds beat the performance of wealthier peers. And it’s not a small effect: Managers from families in the bottom quintile of wealth appear to outperform those from families in the top quintile by 2.16 percent a year, in risk-adjusted terms.

That is one result from a new study by Oleg Chuprinin of University of New South Wales Business School and Denis Sosyura at the University of Michigan Business School.

Why might that be?:

Most individuals from less wealthy backgrounds don’t get to be mutual fund managers at all, and so as an entire class they do underperform. But if they do become fund managers, that may indicate superior smarts and hustle and eventually higher returns. Those from wealthier families, in contrast, maybe had to work less hard and be less smart to get those posts, and that may be reflected in their subsequent performance.

This hypothesis is supported by several features of the data.  For instance, the managers from wealthier families had a higher dispersion of returns. In other words, some of them did very, very well but others were lemons. That distribution is a classic sign of a relatively loose quality filter, and on strictly meritocratic grounds some of those managers probably didn’t deserve to be there.

Along those lines, the data show also that the fund managers from the wealthier families were more likely to receive promotions when their returns were subpar. The returns of the managers from the poorer families were much more tightly bunched, which is consistent with the notion that they passed through much tougher quality filters.

There are some relevant caveats, however, so do read the whole thing.

Comments

File this as not surprised as individuals from less wealthy backgrounds have to work twice as hard as somebody from wealthy backgrounds.

Based on what evidence?

Seriously?

How do immigrants do, as compared to native-born fund managers?

Depends on whether or not they have a British accent

Should some beliefs be evidence-free? Should we call such beliefs religion, or no?

Maybe common sense is a better term

Dude reads a data based study, and says why should we believe this without data.

We don't need no steenkin' data.

Common-sense is often wrong. If you think the study says that "individuals from less wealthy backgrounds have to work twice as hard as somebody from wealthy backgrounds" then you need to read the study again.

We know that in fact poor people work a lot LESS hard than rich people.

"Based on what evidence?"

Well this finding itself would be evidence indicating that individuals from less wealthy backgrounds are, on average, more capable in a given high skilled position, all things being equal. And is that result surprising? Wealthier kids are going to have better contacts, are going to have a higher priced education, etc.

Not really. It is limited evidence of that in this particular niche. But it doesn't say anything about how hard people from poor vs. wealthy backgrounds work

I don't know whether you are actually confounding two distinct concepts, or if it's just the way you've written it that makes it seem so.

"We know that in fact poor people work a lot LESS hard than rich people". The question is not whether poor people work harder than the financially successful, but whether the financially successful from poor backgrounds work/worked harder to attain that success.

"But it doesn’t say anything about how hard people from poor vs. wealthy backgrounds work." You're correct, it is not necessarily generalisable. But this time you caught the background thing, yet not restricted it to those who have had success.

To me, it does seem a bit surprising. I can imagine kids from wealthy backgrounds having an easier time getting into, say, Wharton, but I wouldn't expect they'd have an easier time landing a job at, say, Fidelity or BlackRock or wherever. How would someone from HR interviewing candidates even be able to tell who had wealthy parents vs. who didn't?

Wouldn't an easier time getting into Wharton in and of itself contribute to an easier time getting a job at Fidelity?

True. So maybe mutual fund companies place too much of an emphasis on hiring from elite schools, which are not quite as meritocratic as people might think?

I suspect that problem is not limited to funds, or even the financial industry writ large.

From personal experience, I feel comfortable saying it extends at least as far as the legal industry.

How do you define "too much?"

I agree with the sentiment, but it costs a lot to search across all state schools to find a few gems and less to hit up a few Ivy League schools and hire a boatload.

I'm considering Tyler's quotes above evidence of "too much." If the process for hiring fund managers were efficient, there wouldn't be differences in performance for fund managers across socioeconomic strata of origin.

This is the pattern one should expect to see if there really is discrimination in favor of an allegedly privileged group. I don't trust this particular finding, though, given the efficient market hypothesis.

Huh! How did you do that? I viewed the page source, grabbed a piece that included the checkmark and "Trump supporter", stuffed it into a text editor, converted it to plain text, and I still don't see how how you did it. I guess the next step is to stuff it into a file and open it up in gdb.

Here is a bit of information on how it works, in connection with the checkmark - http://www.fileformat.info/info/unicode/char/2713/index.htm - ✓

Convert whatever you want into small text here, then copy-paste it into the name field:

http://lingojam.com/SmallTextGenerator

I don't know why but it just converted into normal size text when I copy-pasted it from my word processor.

Yes.

This is exactly what one would expect if family wealth made it easier to become a mutual fund manager. It's an utterly unsurprising finding.

Unsurprising result but amazing to have it backed by data.

For me the most intriguing thing about this is that there may after all be such a thing as merit in fund management. I thought the fund manager was basically an overpaid lever-puller in a casino. Of course, this study doesn't exactly show that the high-return managers beat the rest because of some merit their decision procedure - there could simply be correlations between the sort of strategies they tended to prefer and what the market had rewarded when their performance was measured. But still, I am tempted to treat this as weak evidence that some subset of fund managers might be successful partly because they are actually good at their jobs - and I didn't expect to see such evidence.

Do the wealthiest perform significantly worse than average? Maybe the poorest background managers perform average?

The abstract alone doesn't indicate how well the study screened for survivorship bias of the form, manager performance is essentially random, but of the managers who performed poorly, we fired the ones who weren't someone's nephew, and the former managers didn't make it into the study.

Yeah, no kidding. Where's the boutique fund with only formerly poor managers?

Probably from this guy:

http://www.forbes.com/sites/davidwismer/2012/12/10/billionaire-fund-manager-mario-gabelli-i-like-phds-poor-hungry-and-driven-and-some-investment-themes/#579b820510d8

Yes, I bet there is a mistake, if not EMH is wrong.

EMH is wrong though (strong form for sure)

There are people who can beat the market. But there is zero overlap between them and the funds that sell directly to the retail market.

"There are people who can beat the market, in some intervals of time"

FIXED!

Not necessarily.

All managers may underperform the averages, but that doesn't mean that some managers don't do better than others.

Fooled by randomness.

Hm this is such a very confusing finding, as I've learned from this site's commenters that poor children are genetically inferior to rich children so the career success of the latter has nothing to do with any imainary advantages of upbringing...

It can be simultaneously true that genetic sorting means poor children are, on average, inferior to children from wealth, and that the right tail of the poor population is superior to the average (or even right tail) of the wealthy population.

It's also possible hat the finance world applies a much stricter filter to poor people, meaning that the few who get through are (on average) smarter than the rich kids, who are subject to a gentler filter.

The Not So Great Filter?

Without having read the paper, my initial reaction is the following.

You need one of two skills to work for a mutual fund. You are either good at raising assets or investing assets.

Rich people’s kids have a comparative advantage in being productive in raising assets, and spend more time doing that and less time investing. Even if the two managers have equal investment skill, the "rich kid" manager is going to spend less time investing and more time fund raising.

Furthermore, if there’s any causal negative effect from AUM to returns, then the effect will be reinforced. The rich-kid manager is going to spend more time fund raising, being very good at that he'll raise a lot of assets, the AUM will be high, the time spent investing per dollar of AUM is going to be really low, and performance will suffer.

Well-run money management organizations are going to be employing both good fund raisers and good investors. Perhaps a "rich kid" manager doing just investing and not mostly fund raising is an indicator of the whole mutual fund company not being run well?

Isn’t time allocation based on the comparative advantage the most obvious explanation?

No, because fund managers almost never do the asset gathering. That's what investment advisors and fund salespeople do.

I disagree with you about how the world works.

Nevertheless, it would be interesting to see if controlling for investment performance and starting AUM, rich kid managers grow fund assets faster. That's what my theory would predict.

I doubt there is much science behind this study as stock market returns are random and there is no good evidence that hard workers (stock pickers) perform better than the slothful (e.g., indexers) or that the smart (hedge funds) perform better than the stupid. One would have hoped that professor Cowan would have analyzed the study rather than using it as a springboard for something else.

If anything, indexers outperform everyone else. But we're not comparing indexers to non-indexers: we are comparing stock pickers to other stock pickers.

You can be better at picking stocks than somebody else, even if the indexer is better than both of you.

Why are people paid to pick stocks then?

Why are people paid to read palms or perform exorcisms?

It is different, we are talking about moneyed people. I doubt Bill Gates called a witchdoctor every time his children had fever.

Bill Gates may not call a witch doctor. I'm sure plenty of wealthy people in Southern California do.

Whatever it takes to avoid the vaccinations.

Some are very good at deceiving others into believing they are the anomaly.

At a more system-wide level, though, stock pickers are necessary in order to generate the price signals that indexers then follow.

"Some are very good at deceiving others into believing they are the anomaly."
"The first principle is that you must not fool yourself—and you are the easiest person to fool."-- Richard Feynman
"At a more system-wide level, though, stock pickers are necessary in order to generate the price signals that indexers then follow."
I guess we live in the best of all possible worlds then. Wait a second, you mean self-deluded fools paid by idiots decide -- or rather their interactions decide-- the worth of mankind's assets, including mine? What kind of system is this?

If you didn't pay people to pick stocks, you'd pay people to sell you stock.

But only idiots would think they would be able to choose the right stocks. It means we have an idiot-centric economic system?

@Thiago: being Brazilian it's not surprising you would ask that

"You're only calling us a cow college cause we were founded by a cow."

Anyway, Brazil is the worst country, except for all those other countries that have been created from time to time. "Two thousand years ago, the proudest boast was 'civis romanus sum' ('I am a Roman citizen')." Today, in the world of Civilization, the proudest boast is "eu sou brasileiro" ("I am Brazilian").

Why are people paid to pick stocks then?

Because financial firms have done a fine job of convincing people that they are the experts in a hopelessly complex area, and you should entrust your funds to them. Now, IMO, this is one of the greatest frauds ever perpetrated, and the perpetrators are thieves, but there it is.

"....If anything, indexers outperform everyone else. ..."

Does the data actually prove that? The data indicates that few people outperform the market over the long haul (Efficient Market Hypothesis), but many individuals out perform the market in the short term. And a few clearly do it across the medium term.

Was Warren Buffet merely lucky? Or was he actually skilled?

Isn't this what Nassim Taleb said a decade ago?

Confirming anecdote: one of the worst analyses I ever read in the WSJ was by a fund manager who called the bottom of the housing market in May 2008. (Just a wee bit early!) His name suggested a wealthy background.

Maybe houses' prices reached a "permanently high plateau" then.

It's all in the name

The new poverty fighting policy- require poor children to be named Preston Wilcott Wickerpants III

My initial impression when reading this is a different mental model of the economy might contribute to investing in different holdings. I remember Sam Walton in his book talking about Wall Street just not "getting" his company's growth story early on because he was in small towns and from nowhere Arkansas. Wall Street didn't understand his consumer, didn't believe he could beat the mighty K-Mart and Sears even though he was doing it repeatedly. The appeal of his business was not something most on Wall Street had direct experience with.

In any event, life experience influences my investments - in particular making me think some dying businesses will have a longer dying tail than might be expected. The small rural town where my dad lives still has a video rental store (not just Redbox, but a physical store with video rentals).

Good example.

The Scots-Irish hillbillies of the Ozarks were economically inconsequential until Sam Walton (and few other entrepreneurs) came along and rallied them to his banner. The locals turned out to be fierce corporate managers. Who knew before Sam Walton came along that hillbillies would make the most efficient shopkeepers in America?

I used to call on Walmart headquarters in Bentonville a quarter of a century ago and I just got destroyed in negotiations with Walmart staffers. I was a lousy salesman so that's not too surprising, but the best corporate salesmen in America were calling on Walmart and most of them looked thoroughly defeated at the Ponderosa across the street from the Walmart HQ.

Ha! the good old Ponderosa. I preferred the Western Sizzlin myself

Disregarding specific evidence (of course) and looking at the mechanism, you could see that mechanism being true. I could also see the lower family background group being less likely to be qualified, skilled, capable - regression to the mean of the family background during a person's lifetime (which is a thing).

Noise-mining geriatrics (the youngest manager studied would be 71 today), a tiny number of them born into a Grapes of Wrath world and who did a tiny bit better than their peers, in The Garden of Forking Paths and processing the ore through a risk adjustment model of dubious quality has produced what looks to TC to be a confirmation of his bias about current fund managers. Hmmmmm.

What does it matter? String 'em all up.

The methodology is sound. Whether you think the returns explained by the four factor model are driven by risk or mispricing, it's still a good model to use to measure "alpha". Notice that the managers from low income families did not produce positive alpha.

Managers from wealthier families produced more turnover and had shorter investment horizons. Naturally these two are related. The same characteristics predict performance among retail investors. The wealthier managers churned away any alpha they might have generated.

As for the mechanism, it's plausible. Statistical discrimination may persist if the cost of correcting that discrimination is more than the expected gain.

FWIW, I am a PM from a low income background.

Should you be especially suspicious of inspirational stories in economics.

http://nymag.com/scienceofus/2016/08/the-replication-crisis-might-be-fueled-by-inspiration.html?mid=twitter_nymag

Yesterday Cowen referenced John Bogle (Vanguard) who championed index investing, and today he references a study that suggests mutual fund managers from less advantaged backgrounds do better than those from more advantaged backgrounds. My question: do the managers from the less advantaged backgrounds support index investing (because they understand they aren't the masters of the universe) and those from more advantaged background don't (because they believe they are)?

Bogle's family lost its wealth during the Great Depression, so Bogle was forced to work hard and be frugal. Perhaps that frugality carries over into making people like him more reluctant to do wasteful things like churning.

Glad that the study controlled for French/Fama/Novy-Marx Four Factors, but did the study control for fund costs? That's always the simplest way to predict winners and losers.

>Most individuals from less wealthy backgrounds don’t get to be mutual fund managers at all,

Also most individuals from wealthy backgrounds don't get to be mutual fund managers at all -- right?

My impression from reading Wall Street history is that Outer Boroughs types make up a larger fraction of the important innovators than you'd expect. For example, the godfather of mortgage-backed securities and central figure in "Liar's Poker:"

"Lewis S. Ranieri was born in Brooklyn, NY in 1947. Ranieri had sought to be an Italian chef before finding that his asthma prevented him from working in smoky kitchens. He began college at St. John's University but left before completing his degree. Ranieri later returned to school and completed his Bachelor of Arts in English in 1986. In 1987, St. John’s University awarded him an honorary Doctor of Laws degree.[5]"

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