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Kimball's Prudence and Two-Fund Separation as Determinants of Mutual Fund Performance Evaluation
Breuer, Wolfgang | Gürtler, Marc
Credit and Capital Markets – Kredit und Kapital, Vol. 41 (2008), Iss. 4 : pp. 501–539
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Prof. Dr. Wolfgang Breuer, RWTH Aachen University, Department of Finance, Templergraben 64, D-52056 Aachen.
Prof. Dr. Marc Gürtler, Braunschweig University of Technology, Department of Finance, Abt-Jerusalem-Straße 7, D-38106 Braunschweig.
Abstract
Kimball's Prudence and Two-Fund Separation as Determinants of Mutual Fund Performance Evaluation
We consider investors with mean-variance-skewness preferences who aim at selecting one out of F different funds and combining it optimally with the riskless asset and direct stock holdings. Direct stock holdings are either exogenously or endogenously determined. In our theoretical section, we derive and discuss several performance measures for the investor's decision problems with a central role of Kimball's (1990) prudence and of several variants of Sharpe and Treynor measures. In our empirical section, we show that the distinction between exogenous and endogenous stock holding is less important than the issue of skewness preferences. The latter are most relevant for fund rankings, when an investor's skewness preferences are not derived from cubic HARA utility so that the two-fund separation theorem is not valid. (JEL G11)