A large literature exists that attempts to explain why similar products sell for different prices. For example, Lach (2002) documents considerable price dispersion for similar refrigerators, chicken, coffee, and flour. He concludes that because stores change their pricing on a regular basis, consumers cannot learn which stores are the low cost sellers, and as a consequence, price dispersion persists.
In the mutual fund markets, Elton, Gruber, and Busse (2004) document price dispersion of more than 2% per year for essentially identical S&P500 Index funds. They conclude that a combination of the inability to arbitrage (i.e., one cannot short sell open ended mutual funds) and uninformed investors is sufficient to have the law of one price fail in the S&P500 Index fund market. Other papers, focusing on sub-categories of funds, also provide evidence of differential prices being charged for funds with similar characteristics.
In contrast, other papers suggest that the mutual fund markets are more or less competitively priced. For example, Khorana, Servaes, and Tufano (2009) examine mutual fund fees in 18 countries and find that most of the cross-sectional dispersion in fees can be explained by economic variables, such as investment objective, sponsor, national characteristics, and levels of investor protection. More recently, Wahal and Wang (2010) provide evidence that incumbents with high overlap in their portfolio holdings with entrants subsequently engage in price competition by reducing their management fees. In addition, they also find evidence that incumbents with higher portfolio overlap with entrants have lower future fund inflows.
They conclude that the mutual fund market has “evolved into one that displays the hallmark features of a competitive market.” Overall, while the existing literature provides evidence of price dispersion in specific areas of the mutual fund market, there is little existing evidence on how widespread the phenomenon is or on how it has changed over time given the dramatic growth in the mutual fund market.
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Fee dispersion and persistence in the mutual fund industry
