Question

Assume that different equity mutual fund managers have different skills. Some
mutual fund managers are talented and are good stock pickers. If this is true, why might we

still expect in the long run that the funds these talented fund managers work for do not earn
persistent abnormal high returns?

Answer 1

Stocks are always exposed to systematic risk, that is the risk of the market. Maybe a fund manager is a great stock picker and is earning alpha due to his stock picking skills, but there will be situations which will affect majority of the stocks in the market. Consider the situation of 2008 crisis and the present situation of COVID-19.

In the current scenario investors have started to withdraw money from market due to high risk. So this kind of situations are bound to happen and they will affect the stock price. A stock increases in value when there is demand. A fund manger may be a good stock picker. The stock may actually be a good stock and under-priced, but still there has to be a catalyst which will increase the stock price and will take it towards its actual intrinsic value. In bad economic conditions,the catalyst may not happen. So it is really difficult to produce abnormal returns in long run.