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WORKING PAPER

Performance Evaluation in the Presence of Dynamic Trading Strategies

Ravi Bansal

Duke University, Durham, NC 27708, USA

Campbell R. Harvey

Duke University, Durham, NC 27708, USA

National Bureau of Economic Research, Cambridge, MA 02138, USA

Abstract

Fund managers are often evaluated against a set of benchmarks that only incorporate fixed-weight and/or buy-and-hold portfolio strategies. These metrics include the unconditional alpha measure of Jensen and graphical depictions of the unconditional mean-variance frontier. We develop a nonparametric benchmark to provide a new characterization of the risk exposure and risk-adjusted performance of fund portfolios. Importantly, this benchmark incorporates dynamic trading strategies based on publicly available information. Our empirical results show that the performance of mutual funds deteriorates using our benchmark. In addition, we show how to create positive alpha trading strategies. These out-of-sample strategies produce large abnormal returns -- when abnormal returns are defined by the unconditional capital asset pricing model.