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We use the Grossman \& Stiglitz (1980) framework to build a referenceportfolio for uninformed investors and employ this portfolio to assess theperformance of actively managed equity mutual funds. We propose an empiricalmethodology to construct this reference portfolio using the information onprices and supply. We show that mutual funds provide, on average, aninsignificant alpha of 23 basis points per year when considering this portfolioas a reference. With the stock market index as a proxy for the marketportfolio, the average fund alpha is negative and highly significant, --128basis points per year. The results are robust when considering various subsetsof funds based on their characteristics and their degree of selectivity. Inline with rational expectations equilibrium models considering asymmetricallyinformed investors and partially revealing equilibrium prices, our studysupports that active management adds value for uniformed investors.

Why do investors buy shares of actively managed equity mutual funds?  Considering the Correct Reference Portfolio from an Uninformed Investor's  Perspective 1, 2