The authors are the first to study and measure the performance of investment consultants with respect to fund recommendations. The value of advice and active management at the investment product level (e.g., individual stocks and retail mutual funds) has been covered extensively in prior research.

The past performance of funds influences the recommendations, but soft investment and service factors weigh more heavily. Soft investment factors include clear decision making, whether a portfolio manager is considered capable, and a consistent investment philosophy. Service factors include the capabilities of relationship professionals, the usefulness of reports prepared by fund managers, and the effectiveness of presentations. Larger products tend to receive more recommendations, even though evidence shows that fund scale tends to negatively affect performance. There is no evidence that recommended products significantly outperform other products when measured using a variety of factor-pricing models, considering returns relative to size and style benchmarks, or using gross and net of fees. When measured on an equally weighted basis, recommended products underperform nonrecommended products by approximately 1%. Funds with higher fees have a higher, but not economically significant, probability of being recommended. There is no evidence that the net change in the number of recommendations is indicative of better or worse performance one or two years after the recommendation. Nonrecommended funds are shown to perform at least as well as recommended funds, even when measured using risk-adjusted returns or when adjusting for the size of the consultant making the recommendation.

The authors rely on investment consultant survey data from Greenwich Associates (GA), focusing on the recommendations made for US actively managed equity funds from 1999 to 2011. The annual survey requires investment consultants to recommend between four and six fund managers for seven size-style subcategories. The use of original documents precludes survivorship and backfill bias. In addition, the consultants are asked to rate fund managers on a five-point scale at the asset class level on the basis of a variety of performance and nonperformance factors. All responses are aggregated, which preserves confidentiality.

The authors combine the GA data with data from eVestment for the corresponding period, including composite returns, asset management fees, and assets under management. There is no survivorship bias because eVestment accounts for discontinued funds. Informa Investment Solutions provides additional fee data.

The study sample of US long-only equity funds is derived by eliminating all index funds, hedge funds, REITs, and retail funds. Moreover, products that do not fit into the seven size-style subcategories are eliminated, as are any data on products not initially included in the survey.

The authors estimate a Poisson model to determine which factors most heavily influence the recommendations. To study the impact of the recommendations on fund flows, they use a typical flow-performance regression, with a recommendation change variable as a regressor. To measure the performance of the recommended products, they estimate factor models by using time-series regressions. The authors perform additional analyses and regressions to verify the robustness of their findings.

The authors focus on US actively managed equity because it is the largest asset class with robust historical data to study. But it would be interesting to see whether their findings are robust to other asset classes that are deemed to represent less efficient markets. It would also be interesting to see this study conducted years from now, when more data are available, to see whether the results hold across a variety of market cycles.

Fund past performance is shown to affect consultants’ recommendations, described as “return chasing.” Seeking managers who have performed consistently in a variety of market cycles is not necessarily return chasing and could instead be indicative of manager experience. It would be interesting to note the tenure of the recommended fund managers versus the nonrecommended managers, because this aspect probably influences such soft factors as whether a portfolio manager is considered capable and how the performance track record is viewed as part of the recommendation process.

Finally, the authors suggest that plan sponsors should require investment consultants to disclose their track records, similar to the disclosures required of fund managers and research analysts. This suggestion is reasonable given the findings of this study.