The Leadership Effect : Evidence from the Fund Industry

The literature debates whether vertical (autocratic) or horizontal (democratic) policy making is better for institutional and country development. We approach this issue by examining how decision-making hierarchy in team-managed U.S. equity mutual funds affects their performance and risk taking. Employing a unique hand-collected dataset, we find that vertically-managed funds with lead managers earn 75 bps per year lower Fama-French five-factor alpha than their horizontally-managed counterparts. Moreover, vertically-managed funds hold less concentrated portfolios and have lower residual risk, thus showing signs of inferior security selection ability. Our findings support a horizontal decision-making structure in organizations functioning in an uncertain expectation environment