In the undying pursuit of identifying winning managers, researchers have poured countless hours testing factors that they believe might be indicative of investment performance.
Among the factors used to identify winning fund managers, new research shows that birth order might be a significant variable.
A paper published by Vikas Ararwam, Alexander Cochardt, and Vital Orlov titled “Birth order and fund manager’s trading behavior: Role of sibling rivalry” indicates that fund managers who are younger in the family line tend to take on more risk and perform worse than their older counterparts.
This research comes from a larger body of work demonstrating the correlation between family structure and the subsequent development of personality traits. A range of studies have indicated that birth order can indicate the propensity of an individual engaging in more risky adult behaviors such as, participation of extreme sports, novelty seeking behavior and engaging in self- employment. These studies indicate that later-born individuals have a higher tendency for risk seeking behaviors. The author extrapolates that these risk seeking behaviors can similarly be observed when it comes to financial investments.
The researcher’s primary findings indicate that mutual funds run by later form managers take 0.84 percentage points more total risk, 0.26 percentage points more idiosyncratic risk, and 1.13 percentage points more active risk when in comparison to a first born. They found that on average a one-unit increase in birth order increases the aforementioned propensity by 0.37, 0.15, and 0.65 percentage points respectively. These differences persisted even after researchers controlled for demographic characteristics such as family size, socioeconomic status, parent work status, bereavement, marital status, gender breakdown of siblings, relative age, education, and experience with market cycles.
When comparing fund performance through a myriad of risk adjusted ratios such as Sharpe ratios, information ratios, four-factor alphas, and peer adjusted alphas, it appears that later born managers were punished for their increased propensity of excessive risk taking. On average a unit increase of birth-order rank decreases a manager’s annual Sharpe ratio by 0.06, and information ratio by 0.07.
The databases used for the research were CRSP Survivor-Bias-Free U.S. Mutual Fund Database, and the Morningstar Direct Mutual Fund Database. The target scope of the research were solo-managed, domestic equity-only U.S. mutual funds that have a total AUM of over $1 million and have been operated for at least one year. Family characteristics of these fund managers were collected through alternative sources such as obituaries and then cross checked with databases such as Ancesrty.com, LexisNexis, SEC filings. After refining the sample, the researchers were left with 1,905 fund managers operating 2,122 funds between the time period of 1962 to 2017. Of this sample, 40% of managers were first-born, 34% second-born, 15% third-born, and 10% are fourth or later born. About 12% of the fund managers in the sample group were single children.
The personal trait differences derived from family structures extend beyond slight differences in risk tolerance and returns. Later-born siblings appear to be more prone to excessive portfolio churning and “lottery stock picking: Moreover, these later-born managers also have higher propensity to accumulate violations and customer disputes on their FINRA BrokerCheck records.
However, not all later-borns are the same. The researcher found that later-borns with a larger age gap between their older siblings experience less of these aforementioned birth order characteristics. This is theorized to be due to the decreased competition for parental resources when sibling age gaps widen. This research is also centered around U.S. based mutual fund managers and does not completely take into account the complex cultural differences of family structures in other parts of the world.