TAILIEUCHUNG - The Implications of Style Analysis on Mutual Fund Performance Evaluation

The volume of issuance (sales) and the size of outstanding structured product portfolios have a material impact on derivative pricing and spreads. An investment bank will issue derivatives into the market to construct portfolios for sellers of these products, creating natural opportunities for hedge funds to come in on the other side of the trade. It is common knowledge in investment banks that hedge funds help to reduce their volatility risk, providing liquidity in a very complementary way. For example, active hedge fund spread trades alluded to earlier are carried out by selling puts – while portfolio insurance by. | The Implications of Style Analysis on Mutual Fund Performance Evaluation Starring TIC-TAC-TOE Also Featuring Pascal God Chess and War Games K Keynote Speech by John C. Bogle Founder and Chairman The Vanguard Group before the Morningstar Investment Conference Chicago Illinois June 13 1997 Consider the child s game tic-tac-toe. There is simply no way to win even if a genius is playing against an opponent of only moderate intelligence. Each player in turn simply blocks the other player s previous move. Of course if one player is dull-witted or bereft of the power of concentration a loss is easily accomplished. In short as a game that cannot be won only lost tic-tac-toe is the ultimate loser s game. Exhibit I Tic-Tac-Toe X O X X O O O X X Curiously enough the new Morningstar Category Rating System is played on a field with a pattern identical to tic-tac-toe. Because of this similarity the nine-box system for analyzing fund investment styles raises perhaps inadvertently the question Does the search for fund performance resemble the search for three Xs or Os in a row in a child s game Put another way if no one can win consistently when nearly all participants have at least average skill is not fund selection too a loser s game This analogy quickly brings to mind one of the truly seminal articles about the challenges of investment management in increasingly efficient financial markets. Written by Charles D. Ellis founder of Greenwich Research Associates and published in the July August 1975 issue of The Financial Analysts Journal it was called of all things The Loser s Game. In his article Mr. Ellis observed The investment management business is built upon a simple and basic premise professional managers can beat the market. That premise appears to be false. The ultimate outcome of the game is determined by who can lose the fewest points not who can win the most. Money management has been transformed from a Winner s Game to a Loser s Game. When the article was written now

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