Ep72 Alternatives vs. Mutual Funds: Where Should You Put Your Money

Quick Overview

The research conducted by Jonathan Berk and Jules van Binsbergen demonstrates that, contrary to popular belief, mutual fund managers generally do not outperform the market benchmark after fees, while alternatives managers consistently deliver positive net alpha, suggesting that investors should favor alternatives over mutual funds for superior net returns, despite the higher upfront costs associated with alternatives.

Key Points: Mutual fund managers generally fail to outperform their benchmark after accounting for fees, indicating a lack of consistent skill in that space. Alternatives managers consistently generate positive net alpha, meaning they outperform their benchmarks even after accounting for their typically higher fees. The key difference lies in incentive structures: mutual fund managers are usually paid a fixed percentage fee regardless of performance, whereas alternatives managers often have performance-based compensation, such as a 20% cut of the upside but none of the downside. The paper shows that when mutual fund managers perform well, investors receive that excess return, but when they underperform, investors still pay the fee, whereas alternatives managers are only compensated for positive alpha. The data suggests that investors should investigate the skill of managers in alternatives, as the industry structure rewards genuine talent more effectively than the mutual fund industry. The study used real data required by the SEC for certain alternatives (like private equity and hedge funds) to compare performance against mutual funds over a 10-year period.

Context: Jonathan Berk and Jules van Binsbergen, associated with the Lauder Institute at the University of Pennsylvania's Wharton School of Business, discuss their research comparing the performance and incentive structures of alternatives managers (like hedge funds and private equity) against traditional mutual fund managers. Their work challenges the long-held belief that mutual fund managers consistently outperform the market, focusing instead on empirical evidence regarding net alpha generation and fee structures in both investment spaces.