Costly Search and Mutual Fund Flows

TLDR

This paper studies the flows of funds into and out of equity mutual funds. The study finds that investors disproportionately allocate capital to funds with strong prior performance, that search costs significantly influence flows, and that high performance is especially attractive for funds with higher marketing effort, while larger fund size and media attention reduce search costs and drive inflows.

Abstract

This paper studies the flows of funds into and out of equity mutual funds. Consumers base their fund purchase decisions on prior performance information, but do so asymmetrically, investing disproportionately more in funds that performed very well the prior period. Search costs seem to be an important determinant of fund flows. High performance appears to be most salient for funds that exert higher marketing effort, as measured by higher fees. Flows are directly related to the size of the fund's complex as well as the current media attention received by the fund, which lower consumers' search costs.