THE EFFECTS OF PORTFOLIO CONCENTRATION ON INVESTMENT PERFORMANCE OF ACTIVELY MANAGED DOMESTIC EQUITY MUTUAL FUNDS, 1990 TO 2010
Central Connecticut State University
Jerry J. DeRidder
Salisbury University, USA
The purpose of this study is to investigate the relation between the investment performance and portfolio concentration of domestic equity mutual funds from 1990 to 2010. Although previous studies had considered several measures of portfolio concentration, and reported mixed results, not a single study had considered the percentage of the fundís portfolio invested in its top-ten holdings (TOPTEN), which is provided by the Morningstar, Inc., as an intuitive measure of portfolio concentration. The present study attempts to fill this gap. We have focused on both the TOPTEN and the number of portfolio holdings as alternative measures of portfolio concentration. When we sorted our data on the TOPTEN, we found that the less concentrated (i.e., the more diversified) the fund was, the larger its net assets and its number of holdings, and the better the fundís investment performance--suggestive of economies of scale in mutual fund operations. That is, portfolio concentration had a negative effect on investment performance. However, when we re-sorted the data on the number of portfolio holdings, instead, we found the opposite results. That is, portfolio concentration had a positive effect on investment performance. Therefore, we investigated the joint effect of the TOPTEN and holdings on investment performance and found that the less concentrated portfolios (those with larger holdings) outperformed those portfolios that were more concentrated (those with smaller number of holdings). We concluded that portfolio concentration is in fact not beneficial, but that this is apparent only when the TOPTEN is used in combination with the number of securities held, as recommended by the Morningstar, Inc.
Key Words: Mutual Funds, Performance Evaluation, portfolio Concentration
JEL Codes: C02, C12, G10, G11, G20, G23