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The determinants of the intermediary spread: evidence from Australian, UK and USA-based international equity funds

Research output: Working paper

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Abstract

International equity funds continue to grow in popularity, despite their apparent inability to provide investors with value for money as measured by traditional CAPM-based performance measures. This paper develops and tests a new measure of performance which assumes instead that search costs of investors are non-trivial and cause the demand for these funds to be inelastic, thus creating an intermediary spread. This is based on Brennans (1993) equilibrium model of the pricing and the (marginal cost and benefit) determinants of this intermediary spread, which implies that, for any mutual fund, the marginal costs of the intermediary spread in the form of expenses and sales load must be explicitly traded off against the marginal benefits in terms of the funds return relative to a benchmark. The measure is used to evaluate the performance of twelve USA, eight UK and five Australian-based internationally diversified equity funds over the period 1982-95, and results are compared with those of the traditional Jensen measure. The results imply that a measure based on the theory of financial intermediation can provide new insights into the performance of these funds in ways that are not revealed by the Jensen measure.