1

THE FACTORS AFFECTING THE PERFORMANCE OF MUTUAL FUND IN

PAKISTAN

CHAPTER 1

INTRODUCTION

1.1 Background
Mutual Funds Association of Pakistan defines mutual funds using holistic approach by terming
mutual funds as to be a collective investment scheme. This investment scheme is for those
individuals who wanted to invest in securities like money instruments, bonds, stocks and similar
assets. This investment scheme facilitates individuals to park their investments in such
investment vehicles which otherwise would be quite difficult with lower initial capital
investment. MUFAP further state as well diversified and professionally managed Invested
portfolio of investment are salient futures of Mutual funds. On the base of the proportion of
investment each individual received their share which comprises of capital appreciation and any
other income earned by the underlying assets of funds. [ CITATION MUF14 \l 1033 ] . This definition
of mutual funds makes it to be an ideal investment vehicle in the economy like Pakistan.

In 1962 Mutual Funds were for the first time introduced in Pakistan, by the initiative taken by
government of Pakistan by launching the first scheme of National Investment Trust (NIT).
Mutual funds are found to be increasing preferred mode of investment, especially in recent past
years; it is evident from the growing number Asset Management Companies (AMC). AMC’s
number has increased from 38 in 2004 to 158 in 2013 with the average percentage change of
16% for the period. Another trend highlighting the boom in mutual funds industry is the number
of newly introduced Funds, open funds are facing rapid growth with the average percentage
change of 20% for 2004 to 2013. As per Mutual fund association of Pakistan the current volume
of funds is 383,481,291,000 PKR.[ CITATION MUFen \l 1033 ]
 2

With the above highlighted importance of mutual funds and growth potential, mutual funds are
becoming the center of attention especially for researchers. Researchers are studying different
aspects of mutual fund like advertisement impact, like passively and actively managed funds,
investing in international funds and many more. One of the most studied aspects is performance
of mutual funds. Mutual funds may be evaluated through different Performance indictors like
Jensen’s alpha, Absolute Performance, Relative Performance, Standard Deviation and Sharpe
Ratio. On close analysis, we can identify mutual funds performance indicators, either to be
category ranking or risk adjusted returns. Performance analysis should be usefully performed
with a multi-criteria approach integrating all its various aspects [ CITATION Raz10 \l 1033 ] . A
multidimensional approach should indicate the performance of a particular fund against its
determinants. A lot of research work has been done in order to study the impact of determinants,
factors that affect the performance of mutual funds. In Pakistan the study of MianSajidNazirand
Muhammad Musarat Nawaz on “The Determinants of Mutual Fund Growth in Pakistan”has set
the base for the performance evaluation of Mutual funds, with in depth analysis their study
pointed out positively affecting determinants asset turnover, family proportion and expense ratio
other hand management fee and risk adjusted returns are negatively affecting determinants.
[ CITATION Naz10 \l 1033 ] . Similarly another study conducted by TALAT AFZA and ALI RAUF,
focusing performance evaluation of Pakistani mutual funds identifies that there are different
attributes (like fund size, expenses, age, turnover, loads and liquidity) of mutual funds that affect
the performance of mutual funds. [ CITATION TAL09 \l 1033 ] . While Mahreen and Nawazish had
further advanced the work of MianSajidNazirand Muhammad Musarat Nawaz during their
evaluation of mutual fund performance in emerging economy of Pakistan had identified that
during the slowdown of 2008 the mutual funds were most impact by the devaluation of Term
finance certificates [ CITATION Mah11 \l 1033 ] . Muhammad Arshad in his study “Determinants of
Expense Ratio in Open End Mutual Funds of Pakistan” had further verified, expense ratio to be a
factor affecting the performance of mutual funds, he agreed that mutual funds are affected by
expense ratio. He had extended the work of expense ratio by dissolving expense ratio and then
evaluated their ultimate impact on Mutual funds while considering the determinant of Expense
ratio. According to Arshad, the study base for mutual funds can be characterized by time period
and therefore do not provide sound framework for the parameter for evaluating development of
industry and its sensitivity to expense ratio. He had explained expenses to be the sum of different
 3

fees including management, audit, and trustee fees; he had also added the operating cost. In his
study Arshad had concluded that among the determinants of Expense ratio, all variables size,
age, nature except sponsor of fund has significant impact on expense ratio which has been
previously validated by other researcher in different parts of the world. [ CITATION Placeholder1 \l
1033 ]

Mutual fund performance is precise in terms of capital growth and review returns for growth and
value funds respectively. The investigation of performance has evolved from the test of
benchmarking and modelling issues to analyses of other factors that may impact performance.
Most research documented was based on investment styles which include the size aspect and
fundamental attributes of that holding as affecting fund performance. Other factors affecting
fund performance include fund characteristics and behavioral patterns, managerial abilities and
persistence of return patterns (Oliver, 2009).
1.1.2 Size
How does mutual fund performance depends on the size or asset base of the fund? According to
(Gruber, 1996 and Berk & Green, 2002), the issue of the resolution of fund performance depends
crucially on the scale-ability of fund investments. The nature of the economies of scale in this
industry may also have implications for the agency relationship between managers and investors
and the optimal compensation contract between them (Brown et al, 1996 and Becker & Vaughn,
2001). Thus, understanding the effects of fund size on fund returns is an important first step
towards addressing such critical issues.
While the effect of scale on performance is an important question, it has received little research
attention to date. Some researchers point out that there are advantages to scale, such as more
resources for research and lower expense ratios, while others believe that a large asset base
erodes fund performance because of trading costs associated with liquidity or price impact
(Perold & Salomom, 1997). Whereas a small fund can easily put all of its money in its best ideas,
a lack of liquidity forces a large fund to have to invest in its not-so-good ideas and take larger
positions per stock than is optimal, thereby eroding performance.

1.2 Statement of the Problem

Over the last few years, mutual funds have absorbed considerable interest due to their increase in
funds holding across the world and as a result, fund managers’ operations have been reviewed
 4

(Gitagia, 2012). Foreign investors evaluate the risks that sort from economic stability, inflation
and other macroeconomic variables against the rate of return available locally relative to the
international rates. They evaluate past years offered by mutual funds with the unpredictability of
such return constituting the inherent risk. Ramasang (2003) observed that robust growth in fund
management in emerging markets has resulted in a rapid increase in investment firms offering
diversify portfolio funds. However, the investors, while evaluating these factors, do not examine
them conclusively before settling on a fund to invest in.
Mutual funds in Pakistan have recorded significant growth in the last two decades and the
rapidly growing middle class is regularly gaining interest in them (Kariuki, 2012). The fund
management firms play a significant role in boost national savings and compete for investor
funds with other investment assets. Over the last two decades the level of funds invested in
mutual funds has changed from year to year as investors seek better returns with relatively low
levels of risk (Mutua, 2011). Mutual funds offer different products that yield periodic incomes
and capital gains on listed assets. It is also these different products that influence the
performance of different funds in the market.
Sharpe (1964) in an investigation into the relationship between risk and the return found a
positive relationship. Locally, Muriithi (2005) evaluated the risk return relationship of equity
mutual funds and found a positive relationship between the two factors. This concluded that
investors in Kenya were highly risk averse and highly prefer low risk assets, demanding higher
return if they were to incur more risk. This has an effect on the performance of the mutual funds
in that, the low risk securities will be more attractive to the investors as opposed to those with
higher risk.
Berk and Green (2004) argued out why past performance should not predict future performance.
They argued that a successful manager would capture excess return by charging more per dollar
managed, hence increasing expense ratios, or, on the other hand the fund would increase in size
and due to resulting diseconomies of scale, such as, greater transaction costs, organizational
diseconomies or the need to add poorer performing investments, excess returns will disappear
and eliminate predictability.
Does increase in size of a mutual fund or its good performance lead to an increase in expenses?
Pollet and Wilson (2008) examine influences that could lead to diseconomies of scale which in
turn increase the expenses. They hypothesize that management can put more money into existing
 5

stocks, therefore incurring higher transaction costs or they can increase the number of stocks in
the portfolio, thus having to select securities with lower expected returns.
All the above studies were carried out in isolation, hence it cannot be concluded that a particular
factor is solely responsible for how a specific mutual fund performs. This implies that limited
research was carried out in examining the factors that affect the performance of mutual funds and
to what extent. Some factors may be known while others emerge with changing times. It is due
to this background that this study sought to fill this knowledge gap by assessing the factors that
affect the performance of mutual funds in Pakistan.

1.2 Research Objective

In this study where we will be trying to identify some of the factors affecting the performance of
mutual funds we would also be trying to identify relate these factors or determinant with the
performance of mutual funds. By conducting this study we would be able to evaluate the impact
of determinants of performance of mutual funds in different business cycle. Since the time bar
also includes era of recovery so this study will also highlights how well that have been
recovered.

1.3 Research Question

How the factors are affecting the performance of mutual funds during the recession?

Significance of study
Limited researchers have been done on mutual fund industry of Pakistan and recently the mutual
fund become attained the attraction for researchers and student this study significant the
contribution for mutual fund in Pakistan. In this study we used data of different special
consideration phases of two business cycle and then comprises of each other, in this way the
result will be show the factors that affecting the performance of mutual funds with reference to
the economic conditions. The result of this study is expected to expose the determinant of the
return of mutual funds hence the importance of this study is equally for the investors and the
industry. By this study investor can make more clear investments while considering the
determinant where as the industry may maximize return of fund by controlling the reveled
determinants.
 6

1.5Limitation
Since in Pakistan the Mutual fund industry has recently developed our study is destined by
dynamics of changing behavior of investor. Another important factor that may affect is the
evolution of the regulative body of Mutual Fund in Pakistan, History has witness an evolving
regulative framework which will contumaciously alter the for long going practices of the
industry.

1.4 Importance of the Study

Through its findings, the study will contribute to both the academia and the financial
practitioners. To begin with, the study will help fund managers to observe the general view of
factors influencing the performance of mutual funds in the past and the decisions investors took
using the information that was available to them. It will indicate whether their predictions
materialized and the impact they had on the returns that they generated. It will help fund
managers better understand economic factors expectations and choices, hence provide products
that cater for their unique preferences.
Secondly, it will aid investors to review their asset allocation methods by highlighting the
prevailing factors and the resultant actual market returns. The study will further highlight the
critical factors investors should put into consideration and their impact to returns realized. This
information will be critical to individual, corporate and private investors making investment
decisions against a large field of investment options.
The study will advantage the economic policy makers who seek to improve investment in
different sectors. It will highlight the factors that determine mutual funds’ performance and thus
information on how to improve the industry and as a result domestic investments. It will provide
information on how to influence investment towards certain asset classes by determining what
factors influence returns in these asset classes over the others, thus formulate policy to direct
investments towards the critical asset classes.
The study will be helpful to the academic sector as it will contribute to the body of knowledge by
providing empirical evidence against theoretical factors expected to affect mutual funds’
performance in the industry.
 7

Finally, the study will recommend new areas for further study that influence the mutual fund
industry. It will highlight currently available information, expected changes in the market and
possibility of more research as the mutual fund market grows in Kenya.
 8

CHAPTER 2

LITERATURE REVIEW

2.1 Literature review

The prime objective of investor is to earn profits, for this objective investors appears to be keen
interested in evaluating performance of mutual fund price range. From the evaluation perspective
it is essential for investors to have an outlook about the elements the ones have an effect on those
returns. While considering the factors we talk over with the variables the ones derive the overall
performance of mutual funds. Majid e.t.al (2012) had studied the relationship between fund size
and risk adjusted returns of Iranian mutual funds. In their study of Iranian mutual funds they
found no significant relationship between risk adjusted return and their size. Whereas Daniel
Et.al (1999) in their study of US open end mutual funds had shown that greater fund size help to
achieve economies of scale, they had contribute the management style to be the factor that results
in inefficiencies. In another research conducted by Chen Et.al (2004) had also show that fund
size itself does not reduce the returns of mutual funds. Chen Et.al in their debate that causes the
liquidity that causes the small cap equity funds to reduce the returns. Consistent with the finding
of Chen Et.al, Yan (2008) had reasoned the Liquidity and investment style to be the underlying
cause of fund size to erode the performance of mutual funds. In local research conducted by
TalatAfza and Ali Rauf (2009) also confirms by recommending fund size to be non-distinctive
factor of performance of mutual funds.

In general course of business management one the most common phenomena to follow up the
performance of business entity is to is to control the expenses. The literature related to impact of
cost on the performance of mutual funds shows that cost are negatively correlated to the returns
of mutual funds. Muhammad Arshad (2013) had elaborated cost ratio as determinate of the
performance of open end mutual funds of Pakistan.Management fee, auditor salary and fee, Load
expenses and operating expenses collectively form cost of mutual funds. It is necessary to
evaluate the cost ratio in its components because asTalat and Rauf (2009) has shown that, having
 9

load expenses or no load expenses does not impact the performance of mutual funds but having
12B-1 do affect the performance of mutual fund. Keeping this rational in mind we may say that
different types of will impact the performance of fund differently. Danielo Et.al (2010) in their
evaluation of impact of incentive cost on the mutual funds in free contacting in Italy had
highlighted incentive fee to be a tool for strategic pricing. They find in free contracting
environment, Manager uses incentive fees to leverage their take home which is why different
categories of fund have different charges against Incentive fees. Another perspective of Incentive
fee was proposed by Edwin Et.at(2003) reasoned the incentive to bring changes in the behavior
of mutual funds manager. According to them incentive fee impact the behavior of mutual funds
in two dimensions firstly it attracts the skilled manager which enhances good stock selection
process and secondly it benefits the investor as the mangers try to keep the expense low, whereas
while discussing the risk side they further added incentive motivates the fund manager to take
more risk. Massimo and Rajdeep(2009) has shown similar finding during their research work on
mutual funds and incentive provision. Their finding suggests that higher incentive fee cause the
manger to take more risk. In a study conducted on Thai Mutual funds by
WinaiWongsurawat(2011) suggest the negative impact of expense on the mutual funds return.

Literature on the factors affecting the performance of mutual funds also highlights the
management style to be among the factors affecting the performance of mutual funds. In
literature there is contradiction on the impact of Management Style.Chan et al.(2002) in their
work on approaches to management style, in this study they had highlighted the fact that
manager shift their style in order to maximize return. They had justified this on the basis of
Agency or Behavioral consideration in fund management.According to some researchers the
Active management yields positive results while some others contradict with the prior one.
James L. Davis (2001) in his research work on the mutual fund performance and management
style had investigated that, “Is management style be a cause of generating abnormal return?”
According to his research findings it management style and fund’s performance areirrelevantfor
the data observed during 1965 to 1998. In the same study James L. Davis had also investigated
about the relationship of Management style and persistence in the performance of mutual funds
and found some positive evidence which is consistent to prior studies. In the study conducted by
TalatAfza and Ali Rauf (2009)uses turnover as the proxy for the management style and found
 10

positively related to performance of mutual funds. However the significance level is low.
Similarly in another local study conducted by MianSjaidNazir and Muhammad Mussarat Nawaz
(2010) has identified as turnover to be negatively associated with the growth of the fund.

In general course of business management one the most common phenomena to follow up the
performance of business entity is to is to control the expenses. The literature related to impact of
cost on the performance of mutual funds shows that cost are negatively correlated to the returns
of mutual funds. Muhammad Arshad (2013) had elaborated cost ratio as determinate of the
performance of open end mutual funds of Pakistan. Management fee, auditor salary and fee,
Load expenses and operating expenses collectively form cost of mutual funds. It is necessary to
evaluate the cost ratio in its components because as Talat and Rauf (2009) has shown that,
having load expenses or no load expenses does not impact the performance of mutual funds but
having 12B-1 do affect the performance of mutual fund. Keeping this rational in mind we may
say that different types of expenses will impact the performance of fund differently. Danielo
Et.al (2010) in their evaluation of impact of incentive fee on the mutual funds in free contacting
in Italy had highlighted incentive fee to be a tool for strategic pricing. They find in free
contracting environment, Manager uses incentive fees to leverage their take home which is why
different categories of fund have different charges against Incentive fees. Another perspective of
Incentive fee was proposed by Edwin Et.at(2003) reasoned the incentive to bring changes in the
behavior of mutual funds manager. According to them incentive fee impact the behavior of
mutual funds in two dimensions firstly it attracts the skilled manager which enhances good stock
selection process and secondly it benefits the investor as the mangers try to keep the expense
low, whereas while discussing the risk side they further added incentive motivates the fund
manager to take more risk. Massimo and Rajdeep(2009) has shown similar finding during their
research work on mutual funds and incentive provision. Their finding suggests that higher
incentive fee cause the manger to take more risk. In a study conducted on Thai Mutual funds by
WinaiWongsurawat(2011) suggest the negative impact of expense on the mutual funds return.

Literature on the factors affecting the performance of mutual funds also highlights the
management style to be among the factors affecting the performance of mutual funds. In
literature there is contradiction on the impact of Management Style.Chan et al.(2002) in their
work on approaches to management style, in this study they had highlighted the fact that
 11

manager shift their style in order to maximize return. They had justified this on the basis of
Agency or Behavioral consideration in fund management.According to some researchers the
Active management yields positive results while some others contradict with the prior one.
James L. Davis (2001) in his research work on the mutual fund performance and management
style had investigated that, “Is management style be a cause of generating abnormal return?”
According to his research findings it management style and fund’s performance areirrelevantfor
the data observed during 1965 to 1998. In the same study James L. Davis had also investigated
about the relationship of Management style and persistence in the performance of mutual funds
and found some positive evidence which is consistent to prior studies. In the study conducted by
TalatAfza and Ali Rauf (2009)uses turnover as the proxy for the management style and found
positively related to performance of mutual funds. However the significance level is low.
Similarly in another local study conducted by MianSjaidNazir and Muhammad Mussarat Nawaz
(2010) has identified as turnover to be negatively associated with the growth of the fund.

Another important factor to evaluate the financial position of any firm is the liquidity status.
While investigating the relationship between liquidity and profitability in oil and gas sector of
Pakistan QasimSaleem and Ramiz Ur Rehman (2011) has identified the varied impact of
liquidity ratios on profitability of the oil and gas companies. They had also suggested there is an
optimum level that should be retained in order to have improved liquidity profitability beyond
this optimum level the liquidity will decrease the profitability. In another case Victor Curtis
Lartey et al (2013)on the relationship between Liquidity and profitability in the banking sector of
Ghana and they had reconfirmed the previously identified results of positive relationship
between bank’s liquidity position and profitability. They had also highlighted the point of
optimum level of liquidity that could result positive result and else could result the erosion of
financial performance. While TalatAfza and Ali Rauf (2009) in their study on performance of
Mutual Funds in Pakistan has found liquidity statistically significant with negative impact on risk
adjusted return of mutual funds. Joseph Chen et al (2004) while arguing about the relationship
between the fund size and performance of Mutual Funds; had identified that; fund size does not
erode the performance or return of mutual funds. They reasoned Liquidity being a barrier to
achieve economies of scale. Jianping Qi (2003) in his work “Liquidity Provision, Interest-Rate
 12

Risk, and the Choice between Banks and Mutual Funds” had reasoned the need of liquidity,
affecting the choice of consumer between two investments.

2.2 Conceptual framework

On the basis of literature of conducted for the study has identified the following factors,
1. Expense
2. Liquidity
3. Fund size
4. Management style
There impact on the performance on the basis of literature review has been summarized in the fig
1.1 on the following page.
 13

Figure 0.1Conceptual Framework

 14

Chapter 3

RESEARCH METHOD
In this chapter the main methodological aspects of this research are going to be
considered. But before that it seems necessary to explain the logic which is behind these.

Usually investors want to evaluate their portfolios. They try to explain maximal part of a
return to the portfolio in order to predict future returns and, thus, to avoid possible bad
performance leading to capital losses. Therefore, investors choose a number of
determinants of the portfolio returns, and from the philosophical point of view these
factors can be divided into two groups – common and idiosyncratic.

3.1 Variables
From the findings of chapter two we are having following as our variables for this study;

1. Expense
2. Liquidity
3. Fund size
4. Management style
5. Return

Mentioned variables for our study can be define as;

3.1.1 Expense
Expense for mutual funds includes operating expenses, Annual fees, Load Fees, Management
Fees and Auditor’s Fees. Operating expenses represents the expenditures incurred for translation
of regular business operations. Annual fees are payable to SECP about amount equal to 0.095
Percent of the average net assets of the scheme for the funds those are categorized as equity
scheme this payable amount is regulated under provisions of the Non Banking Finance
Companies and Notified Entities Regulations 2008. Load Fee is the charged amount against sales
or purchase of units of mutual funds. There are two major types of load fee back end load (the
load fee that is charged at redemption of mutual fund units) the other is front end load (the load
fee that is charged when units are purchased). Different funds have different level of load fees
but they all adheres the market forces. Some funds may charge both back end load and front end
 15

or they may charge any one. We have not came across any case where none is being charged. A
management fee is calculated as a fixed percentage of Net asset Value (NAV) as the fees for
consultation and advisory fees to the Asset Management Company (AMC). As per the directive
of SECP every AMC is bound to publish it independently audited report which should be
available to general public. In order to fulfill this regulatory requirement every AMC hires
independent auditor and expense auditor’s remuneration as auditor’s fees. The sum of operating
expenses, Annual fees, Load Fees, Management Fees and Auditor’s Fees will be used as
Expense.

3.1.2 Liquidity
Liquidity represents the ability of funds to get converted into cash and meet shareholder’s
redemption. The cash balance at the end of the reporting period will be used to as provision of
liquidity.

3.1.3 Fund Size

Fund size is the volume of the funds in monetary units. For fund size none of the proxy will be
used and hence the data of fund size with natural log will be used as it has been done in prior
research work

The size of the fund represents the internal factor that is distinctive to each fund. Data on mutual
fund size was collect from both primary and secondary sources. Published financial statements
were available for funds while a data form was used to collect primary data from variable funds.
The fund size is the fifth independent variable in the model representing the fund size
relationship whose beta parameter is analysed.
The equity fund has the biggest fund size with the Old Mutual Equity Fund of 5.8 billion shillings in
2007. Money market fund follows in fund size with the balanced fund and bond fund following in
rank. The fund size generally rises with time hence funds that have existed for a long time are
bigger. This variable helped determine whether fund size affects the rate of return and how much
inherent risk it represents..

3.1.4 Management Style

Management style represents the generalized way of the way management take decision. In case
of mutual of funds literature has highlighted two most commonly observed management styles,
active management and passive management. Where, Active management represents dynamic
 16

approach of fund manager towards portfolio management and passive management refers to bit
aphetic approach. Since management style is abstract idea therefore the proxy will be used to
measure the impact of Management style. Turnover is the best known proxy for management
style.The Turnover will be calculated by dividing the sale or purchase of the asset (whichever is
low) by N.A.V for operating period.

3.1.5Dependent
Return of our mutual funds will be used independent variable.

3.1.6Independent
Our dependent variables for the study are Expense, Liquidity,Fund size and Management style.

3.1.7 RESEARCH MODEL

The study will employ a regression model to determine the relationship between identified factors. The
regression model can be specified as follows:

R=β fund¿ ¿¿

3.2 Time Frame

The selected time frame for this study is from 2007 to 2014. The main reason for selecting this
time horizon is that it comprises of two phases of business cycle. Hence results obtain from this
study will yield the impact of the factors affecting performance of mutual funds in a complete
business cycle and more empirical conclusions would be made.

3.3 Source of data and sample size

The total population for the Open End mutual funds comprises of one hundred and fifty-five
funds and twenty-two Asset management companies. Since the present study is for the period
2007 to 2014 therefore from the mentioned population the funds incepted before 2007 are
relevant for our study, this results to filter our population to be thirty seven in number. During
collection of data a very interesting phenomenon has came under observation that is all of these
37 funds were not incepted as Open End funds, some of these funds were originally incepted as
Close End funds and has recently converted into Open End funds. While considering this we had
eliminated those funds from our concerned population and the new number of our concerned
population become thirty four.The approach that had been used in order to generate a more
appropriate representative of Population of one hundred fifty five open ended mutual funds is
 17

derived from the work of William C. Emory (1985[ CITATION Emo \l 1033 ]), Gert Van Dessel
(February, 2013 [ CITATION Des13 \l 1033 ]) and Dr. Scott Smith (April,2013)[ CITATION Smi13 \l
1033 ]. For precession and degree of accuracy 90% has been set as Confidence Level and ±5%
Confidence Interval, where as the standard deviation of 0.5 has been used as explained by three
sources. In order to have more appropriate sample size we are considering the following equation
for calculating the sample size,

s N −n
σ x́ = ×
√
√ n−1 N −1

Where;

σ x́ =Standarderroroft h emean

s= Standard deviation of sample

N= Size of population

n = Size of population

Calculation of Sample Size

Appendix 1 represents the detailed calculations

The confidence level = 90%

Desired Interval (Confidence Interval) = ±5%

5%
σ x́ =
1.9645

σ x́ =¿0.025452

N = size of Population = 34

Standard Deviation = 0.5

 18

Hence the sample used for the calculation is 31 open end mutual funds. With 31 Funds the total
observations are272 observations.

Data for variables of study was collected from the annual financial statements, fund manager’s
report and from the official websites for the individual funds.

The data for the mentioned sample has been collected from the annual financial statement and
Fund manager’s report. These financial reports are maintained under the directive of SECP code
of reporting, this is very elaborative code that guide AMC’s for reporting standards

Director’s report, Income statement, Balance sheet, cash flow statement and statement of
movement of funds were of special importance as they were unanimous source for fund size,
Annual return, Expenses, Cash position, Sale and Purchase of assets and N.A.V. the data thus
collected has also been reassured from the Fund Manager’s report of June of respective year.

The following table 1 elaborates the data sources.

Table 1

Variable Data Source Assurance source

Expenses Income Statement, Annual report
Cash Balance sheet, Annual report Cash Flow statement
Fund Size Fund Manager’s report Director’s report Annual Report
N.A.V Director’s Report Annual report Fund Manager Report
Sale and Purchase of funds Statement of Movement of Funds

3.5 Techniques and tools

The data collected from the identified resources will be analyzed through statistical tools. Study
is employing descriptive and inferential techniques to verify the relationship between the
identified factors and returns of the fund for the period 2007 to 2015. Regression analysis will be
conducted in order to draw the relationship and identifying the magnitude of the variable under
observation.

3.6 Hypothesis
For verifying the impact of the factors on return we had used the following hypothesis testing

Hypothesis 1
 19

Alternate Hypothesis: Return of Mutual Funds is positively correlated with Expense.

Hypothesis 2

Alternate Hypothesis: Return of Mutual Funds is positively correlated with Liquidity.

Hypothesis 3

Alternate Hypothesis: Fund size of Mutual Funds is positively correlated with Expenses of
Mutual Funds.

Hypothesis 4

Alternate Hypothesis: Active management is positively correlated with Risk Adjusted Returns
of Mutual Funds
 20

Chapter 4

DATA INTEGRATION AND ANALYSIS

Data integration and analysis has been done in order to draw the meaningful results from the
collected data.

Table1

Variables Entered/Removeda

Model Variables Entered Variables Method

Removed
Liquidity, . Enter
1 Fund_Size,Managem
ent_Style, Expense b

a. Dependent Variable: Return

b. All requested variables entered.
The mentioned table shows the all the dependent variable of the analysis

4.1 Descriptive Statistics

Descriptive statistics is used to summarize the population. The following descriptive statistics for
the dependent variables and independent variable. Statistics shows that on Mutual funds in
Pakistan for the period starting from 2007 to 2014 has average returns of 13.63%, whereas the
least return provide during this duration was -6.3% and the maximum of all was 72%. The
deviation from the mean was approximately ±.19812.

Descriptive statistics for fund size shows that on average the monetary value of fund size for the
period of study is PKR 243632911.2833, whereas the least value for the period is PKR 521664
and the maximum value is PKR 30434770000. Deviation from the mean value of Fund size is
±1994214787.95.

The statistics about management style says that mutual fund industry of Pakistan has the least
turnover of 12% where as the most actively traded funds have the turnover of 98% for the period
of 2007 to 2014. The deviation from the mean is ±0.21843. However the mean for the turnover is
58.16% which shows that on average the Mutual Fund industry of Pakistan has an average
moderately active style of management.
 21

The statics for Expense shows that in the Mutual Funds industry the least expense for the period
of study was pkr 1382324.00 whereas the at other end the maximum amount spent to manage
these funds goes as high as PKR 30434770000.0 with overall deviation of ±1126610212.99 from
mean. On average the PKR 243632977.283 has been spent to manage the mutual funds in
Pakistan for the period of study.

The analysis shows that with deviation of ±1436812255.03107 from mean, the minimum amount
of cash available at Asset Management Companies is PKR 55263 and the maximum amount of
cash was PKR 16989850000 for the period of study. On average the cash reserves available at
Asset Management Companies for the period is PKR 625603811.1792

Table 2
Descriptive Statistics

N Minimum Maximum Mean Std. Deviation

Return 240 -.63 .72 .1363 .19812

240 521664.00 30434770000.0 243632977.283 1994214787.95
Fund_Size
0 3 511
240 1382324.00 17313988000.0 159074130.683 1126610212.99
Expense_Ratio
0 3 238
Management_Style 240 .12 .98 .5816 .21843
240 55263.00 16989850000.0 625603811.179 1436812255.03
Liquidity
0 2 107
Valid N (listwise) 240

4.2 MulticollinerityTest
Multicollinearity is defined as the interdependence of the Predictors of the non experimental data
set used for the regression model. Edward R. Mansfield and Billy P. Helms [ CITATION Man82 \l
1033 ] in “Detecting Multicollinearity” has demonstrated examination of Multicollinearity is to
be the preliminary analysis for regression analysis. Multicollinearity has adverse effects on the
estimation of the predictors. Dr. AylinAlin in her article Multicollinearity has explained the
existence of Multicollineratiy to result poor and ineffective estimation of predictors. [ CITATION
Ali \l 1033 ].

For conducting Multicollinearity Test we had used the Variance Inflated Factor (VIF). Variance
Inflated Factor estimated the degree to which the variances of coefficient of predictors are
 22

inflated. As described by Support of MINI TAB® 17 the VIF can be interpreted as per the
following chart;

Table 3

VIF Status of predictors

VIF = 1 Not correlated

1 < VIF < 5 Moderately correlated

VIF > 5 to 10 Highly correlated

Our result for multicollinerity diagnostics is;

Table 4

Coefficientsa

Model Un standardized Coefficients Standardized T Sig. Collinearity Statistics

Coefficients

B Std. Error Beta Tolerance VIF

(Constant) .407 .167 2.442 .015

Fund Size .037 .024 .060 1.521 0.00 .987 1.02

Expense Ratio -.014 .013 -.098 -1.056 .292 .979 1.016

1
Management Style -.088 .060 -.096 -1.461 .145 .984 1.5

-.002 .008 -.017 -.204 .838 .978 1.153

Liquidity

a. Dependent Variable: Return

Since VIF of all the Predictors value is closed to one we infer that no Multicolienrity exist and
hence the data is fit for use.

4.3 Model Test

Regression analysis explains the relationship between predictors and dependent variables. R 2 is
the statistical measure that calculates the degree to which the predictors in the model explains the
observed variations in the dependent variable. In our study the value of R 2 is 2.0% which shows
negligible variations can only be explained by the chosen predictors.
F-statics is used to identify the significance of the results; it is the ratio between Mean square of
regression and Mean square of Residual. Our analysis has produce value of F-statistics to 1.67
 23

and sig value of 2.5% which is less than 5% hence the results of the model can be considered
significantly correct.

Table 5
Model Summary

Model R R Square Adjusted R Std. Error of the

Square Estimate
a
1 .140 .020 .003 .19828

a. Predictors: (Constant), Liquidity, Management_Style , Fund_Size,

Expense_Ratio

Table 6
ANOVAa

Model Sum of Squares Df Mean Square F Sig.

Regression 32.033 4 8.008 350.54 0.25b

1 Residual 3.952 235 0.0166

Total 35.985 239

a. Dependent Variable: Return

b. Predictors: (Constant), Liquidity, Management_Style , Fund_Size, Expense_Ratio

Table 7
Coefficientsa

Model Unstandardized Coefficients Standardized T Sig.

Coefficients

B Std. Error Beta

(Constant) .407 .167 2.442 .015

Fund_Size .037 .024 .060 1.521 0.00

Expense -.014 .013 -.098 -1.056 .292

Management_Style -.088 .060 -.096 1.461 .005

Liquidity -.002 .008 -.017 -204 .008

a. Dependent Variable: Return

R=0.003 ¿

4.4 Hypothesis testing

 24

4.4.1 Hypothesis 1:
The Ha of hypothesis 1 was“Return of Mutual Funds is positively correlated with Expense”.
While considering the result of coefficients obtain after analysis proves our H0 to be true at
significant level of 5%. The negative sign proves that there is a negative relationship between
returns and expenses.

4.4.2 Hypothesis 2:
The Ha for hypothesis 2 was “Return of Mutual Funds is positively correlated with Liquidity”.
While testing alternate hypothesis analysis has reflected that there is positive correlation between
the fund size and the significance level for thisrelationship is 42.6% which is not in acceptable
rang of significance level that is 0.00%> Sig value < 5.00%. Hence H 0 in the hypothesis 2 has
been accepted where as Ha has been rejected.

4.4.3 Hypothesis 3:
The Ha for Hypothesis 3 was “Fund size of Mutual Funds is positively correlated with returns of
Mutual Funds”. Statistical analysis shows that Fund size positive correlated with performance of
Mutual funds which though accepts alternate hypothesis and rejects null hypothesis but the
significant level for this analysis is not in acceptable range of 0.00% to 5.00%. Hence positive
relationship between fund size and returns is rejected accepted.

4.4.4 Hypothesis 4
The Haof Hypothesis was “Active management is positively correlated with Returns of Mutual
Funds”. The analysis suggests that there is a negative relationship between the Management style
and returns of Mutual funds. As descriptive statistics has revealed that on average the
management style of is moderately active hence a more active management style will yield a
negative relationship between management style and return. However since the significance level
of this relationship not in the acceptable range the Null hypothesis is rejected at all.
 25

Chapter 5

DISCUSSION

This Study explores the factors those affect the performance of Mutual funds of Pakistan. The
study has identified Expenses, Liquidity, Fund size and management style to be among the
critical factors those may affect the performance of open end mutual funds in Pakistan. Data
analysis has shown that expenses are negatively correlated with returns. Previously studies have
also consistently pointed out that the Expenses are negatively correlated with the returns of
mutual funds where as this statement cannot be generalized for all expenses as shown by
 26

TalatAfza and Ali Rauf (2009), Massimo and Rajdeep (2009) and WinaiWongsurawat (2011). It
is inherent nature of the expenses to decrease the net profit margins, with no difference for the
mutual funds. Fund size has shown positive correlation with return, but the low level of
significance suggest that they the relationship is not explained by the model. On other hand the
same directional movement is the explanation of fund size and return is resultant of achievement
of economies of scale. Analysis has supported the argument of Danial Et. al (1999), Chen Et. al
(2004) and Yen(2008) that fund size does not erode the performance of fund but considering it as
a non distinctive determinant of fund’s performance will be biasness towards contribution of
factor in determination of returns. While analyzing the cause and effect of Liquidity as a
determinant of the return, the study has highlighted a positive relationship between return and
said determinant. The results negate the findings of study of TalatAfza and Ali Rauf (2009) and
Joseph Chen et al (2004), since the correlation between liquidity and return is positive, the
liquidity will not erode the returns at all. Arguments of Jianping Qi (2003) are supported by the
fact that an appropriate level of liquidity will attract investors hence increasing the fund size
which results approaching economies of scale, ultimately lowering the expense and impacting
the returns positively. This study has identified as active management to be negatively affecting
the performance of mutual funds, hence supporting the findings of study Main SajidNazir and
Muhammad Mussarat Nawaz (2010), where as these results contradict with the finding of study
of TalatAfza and Ali Rauf (2009) . Both the studies were conducted on the open end funds of
Pakistan. The negative association is because of two reasons; one active management results
increased operational expenditures and secondly it also raises the potential of losses to seize
opportunity of future growth and dividend.

The key determinate of the performance of mutual funds is the expenses where as the other
identified factors are causing to impacting the returns by endorsing impacts on expenses. As
analyzed liquidity impacts: the fund size thus economies of scale, where as the management style
impacts the expenses in terms of the transaction cost and potential looses of future return.
 27

Chapter 6

CONCLUSION AND RECOMMENDATION

Aiming to identify the factors affecting the performance of mutual funds, so that these factors
can be properly managed for the profit maximization, existing literature has framed: fund size,
Liquidity, Management style and expenses to be determinants of returns of Mutual funds.

The impact of “Fund Size” is identified to be positively correlated with returns of Mutual funds
at low level of significance. Hence, cannot be considered as significant determinant of the
returns. The positive correlation identifies the direct relationship which should not be
overlooked. A separate study is needed in order to test the hypothesis that if there is any
significant impact of fund size on economies of scale and how does the fund size impact the
 28

economies of scale in particular reference with Open End Mutual Funds in Pakistan. It would be
a more holistic approach if the level of economies of scale can be identified for the Open End
Mutual Fund in Mutual Fund Industry of Pakistan.

The impact of liquidity for this study supports the argument that liquidity erodes the performance
of Mutual Funds, as positive correlation has been identified between the returns and liquidity. On
other hand, since the confidence level is not significant therefore positive impact is not justified.
The study infers that though the positive relationship is not significant but it does not show any
negative impacts on the returns of Mutual funds. Impact of liquidity on fund size should be
evaluated in order to identify its impact on economies of scale. It is recommended that a study
for liquidity provision and behavior of investment should be studied. The recommended studies
will help to identify the need of liquidity as competitive advantage of fund to other and erosion
of fund size caused by liquidity.

The study has revealed the on average the fund manager of Open Ended funds in Pakistan has
shown active management style. The correlation of management style with return of the Mutual
funds is negative indicating inverse relationship between funds return and active management.
but the low level of significance does not evident this relationship, inferring that the management
style of fund mangers of Pakistan is justified.

At acceptable significance level analysis of data of expense and returns has endorsed the
negative relationship between fund’s returns and expenses. Results support the argument of
inherent nature of expenses to decrease the funds return. Therefore fund managers must take a
great care while operating the funds with respect to incurred expenses.

Fund managers of Open end Mutual funds can increase the returns while primarily focusing the
expenses. The further recommended studies; impact of fund size on economies of scale, behavior
of investor towards provision of liquidity in open end mutual funds of Pakistan and impact of
liquidity on fund size should be conducted so that more insights can be developed towards the
improving the performance of mutual funds.