The Investment Triangle: An Analysis of How Portfolio Turnover Affects Risk and Fund Performance

Open Access
Author:
Denis, Aurelie
Area of Honors:
Finance
Degree:
Bachelor of Science
Document Type:
Thesis
Thesis Supervisors:
  • Christoph Hinkelmann, Thesis Supervisor
  • Brian Spangler Davis, Honors Advisor
Keywords:
  • Finance
  • Investment
  • Portfolio Turnover
  • Risk
  • Performance
  • Standard Deviation
  • Mutual Fund
Abstract:
Following the popular notion that increased expenses will decrease returns, investors are often fixated on a fund’s expense ratio when deciding where to invest their money. Portfolio turnover, on the other hand, is a variable that is often overlooked. It may be that a higher turnover causes increased expenses though and therefore decreased returns for investors. In addition, if a portfolio manager decides to trade more or less in any given time period, this may influence the overall risk profile of the fund and may not actually lead to superior asset selection decisions. Past research conducted on portfolio turnover and its impact on return and risk is limited and many of the findings are contradictory. To bring additional insight to the existing body of research, this thesis explores these relations using data from 2004 to 2014 for a sample of United States domiciled mutual funds. It was found that portfolio turnover has very limited impact on returns and standard deviation for both equity and fixed income funds. For equity funds, the predominant driver of performance and risk was found to be market forces. In bond funds, the correlations analyzed were generally weak, and as a result the key drivers are uncertain. In conclusion, there are other forces aside from portfolio turnover that heavily sway mutual fund performance and risk regardless of the underlying assets.