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Machine Learning and Fund Characteristics Help to Select Mutual Funds with Positive Alpha

Journal

Journal of Financial Economics

Subject

Management Science and Operations

Authors / Editors

DeMiguel V;Gil-Bazo J;Nogales FJ;Santos AAP

Biographies

Publication Year

2023

Abstract

Machine-learning methods exploit fund characteristics to select tradable long-only portfolios of mutual funds that earn significant out-of-sample annual alphas of 2.4% net of all costs. The methods unveil interactions in the relation between fund characteristics and future performance. For instance, past performance is a particularly strong predictor of future performance for more active funds. Machine learning identifies managers whose skill is not sufficiently offset by diseconomies of scale, consistent with informational frictions preventing investors from identifying the outperforming funds. Our findings demonstrate that investors can benefit from active management, but only if they have access to sophisticated prediction methods.

Available on ECCH

No


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