Do mutual funds lose talent to hedge funds? Evidence from China

This paper examines the effect of rapid expansion of the hedge fund industry on mutual fund managerial turnovers. Deuskar et al. (2011) find that mutual funds retain skilled managers by offering side-by-side arrangements. We find that talented fund managers tend to leave mutual funds and establish their own hedge funds when side-by-side arrangements are not feasible. Mutual fund returns and flows decrease if their managers leave mutual funds to establish hedge funds, especially when the hedge fund industry is growing rapidly and performing well. Both institutional and retail investors react to this managerial turnover by reducing net flows. The hedge fund industry has grown rapidly in China. According to the Asset Management Association of China, there are 24,471 hedge fund management companies managing 81,739 individual funds with total assets under management (AUM) of RMB 13.82 trillion in China by the end of 2019. Since hedge funds face fewer regulatory restrictions and can charge performance fees, this rapidly expanding industry could lure