A Conditional CAPM Model with Local Covariates for Detecting and Evaluating Active Management

The intercept of the standard CAPM and Conditional CAPM model, the alpha, is used to evaluate the long-run performance of managed portfolios. However, this measure is not always appropriate for detecting the presence and impact of active management strategies. In this paper, we introduce a Conditional CAPM model where the time-varying alpha and beta parameters depend only on the past history of the underlying portfolio returns and of the benchmark returns. The dynamics of the parameters has two components: the first describes the long-term behavior of the alpha and beta, whereas the second is associated with the short-term performance of the underlying portfolio. The interpretation of parameters allows the identification of portfolio managers who implement active management strategies. We provide an empirical application based on a large set of U.S. mutual funds showing how widespread active management approaches are, even if only a minor fraction persistently beats the benchmark. We also show that the recent financial crisis has had negative effects on mutual fund performances