Box Jumping: Portfolio Recompositions to Achieve Higher Morningstar Ratings
Name
Kim-dskim-SMMR-Management-2024-thesis.pdf
Description
Thesis PDF
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1.16 MB
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Adobe PDF
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48222e60d0949330547b9d98f7620075
Author(s)
Kim, David Sunghyo
Advisor(s)
So, Eric C.
Date Issued
May 2024
Publisher
Massachusetts Institute of Technology
Abstract
I show that actively-managed mutual funds often pursue higher Morningstar ratings at the expense of lower investment returns. Funds achieve higher ratings by changing their holdings to induce Morningstar to reclassify them into size/value style boxes with worse average performance. This practice, which I label `box jumping', sacrifices fund performance but nonetheless attracts large inflows of capital because funds are rated based on their relative performance within style boxes. Box jumping funds also take advantage by charging higher fees, which investors pay despite the ratings upgrade reversing on average within three years. These patterns emerge after 2002 when Morningstar ratings became based on relative performance within style boxes, and are predictably absent beforehand. I also show that pervasive box jumping creates negative spillover effects to other funds. Together, my findings highlight portfolio recomposition as a novel lever that funds employ to manipulate Morningstar ratings, and that funds box jump despite sacrificing returns because investors fixate on ratings when allocating capital.
MIT Department
Sloan School of Management
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