Grades Matter in Performance: Morningstar Stewardship Grades and Mutual Fund Performance

• Main Authors: GHOSH, Aurobindo, GOH, Jeremy, NG, Wee Seng
• Format: text
• Language: English
• Published: Institutional Knowledge at Singapore Management University 2012
• Subjects: Mutual fund performance; Corporate Governance; Stewardship Grades; Star Rating; mutual fund ratings; predictive regression; persistence; Finance and Financial Management
• Online Access: https://ink.library.smu.edu.sg/lkcsb_research/3324; https://ink.library.smu.edu.sg/context/lkcsb_research/article/4323/viewcontent/Paper_203_20__20gradesmatter_150812p.pdf
• Institution: Singapore Management University

Investors in mutual funds have the unenviable task of disentangling two mutually confounding effects. First, to fathom the future performance of the funds based on current evidence, and second, to assess how well the mutual fund managers will steward their investments under uncertain economic conditions. We corroborate the dependence of weighted risk-adjusted returns (viz. the Star Ratings) on corporate governance score (viz. Stewardship Grade) accounting for fund specific characteristics. We document Stewardship scores Granger cause Star Rating. We propose an objective data-driven corporate governance score based on the components of Stewardship Grade. Both the static and dynamic fixed-effects models show strong predictive relationship between performance with corporate governance accounting for the endogeneity bias from unobserved fund-specific traits. We conclude that corporate governance scores form an effective yet low-cost tool for predicting performance, hence mutual fund investors can only focus on one problem, i.e., find the better stewards for their funds.