Performance Manipulation and Fund Flow: Evidence from China

In this paper, we assess the relation between fund flow and fund returns in China's open-ended fund industry. Analyzing quarterly data from the period January 2005-December 2012, we construct a simultaneous equation model that captures the endogeneity of current and past returns and flows and find that contemporaneous returns have a key role in determining fund flows. We then estimate the fund performance "manipulation degree" to further investigate the performance manipulation effect on fund flows. We find that manipulated funds can attract an additional flow of money and that, notably, individual rather than institutional investors are more likely to be deceived by manipulative behavior.