Outsourcing Mutual Fund Management: Firm Boundaries, Incentives, and Performance

  • Author(s): JOSEPH CHEN, HARRISON HONG, WENXI JIANG, JEFFREY D. KUBIK
  • Published: Mar 07, 2013
  • Pages: 523-558
  • DOI: 10.1111/jofi.12006

ABSTRACT

We investigate the effects of managerial outsourcing on the performance and incentives of mutual funds. Fund families outsource the management of a large fraction of their funds to advisory firms. These funds underperform those run internally by about 52 basis points per year. After instrumenting for a fund's outsourcing status, the estimated underperformance is three times larger. We hypothesize that contractual externalities due to firm boundaries make it difficult to extract performance from an outsourced relationship. Consistent with this view, outsourced funds face higher powered incentives; they are more likely to be closed after poor performance and excessive risk‐taking.

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