Advertisement

Journal of Asset Management

, Volume 18, Issue 6, pp 433–456 | Cite as

Bond mutual funds and complex investments

  • Markus Natter
  • Martin RohlederEmail author
  • Dominik Schulte
  • Marco Wilkens
Original Article

Abstract

We are the first to analyze bond mutual funds’ permission and use of complex investments such as derivatives, restricted securities, and securities lending. Based on unique regulatory information from the SEC’s N-SAR filings, we show that most complex investments do not affect fund performance or risk. However, interest rate futures (IRF) are harmful to bond funds. Bond funds engaging in IRF (46.94% of all bond funds) underperform nonusers by economically meaningful 54 basis point of alpha p.a. Our results reveal that bond funds employ IRF for speculation as they increase funds’ exposure toward interest rate risk.

Keywords

mutual fund performance bond funds performance derivatives interest rate futures 

JEL Classification

G11 G12 

References

  1. Adam, T. and Guettler, A. (2015) Pitfalls and perils of financial innovation: The use of CDS by corporate bond funds. Journal of Banking and Finance 55: 204–214.CrossRefGoogle Scholar
  2. Almazan, A., Brown, K.C., Carlson, M. and Chapman, D.A. (2004) Why constrain your mutual fund manager? Journal of Financial Economics 73(2): 289–321.CrossRefGoogle Scholar
  3. Amihud, Y. and Goyenko, R. (2013) Mutual fund’s R2 as predictor of performance. Review of Financial Studies 26(3): 667–694.CrossRefGoogle Scholar
  4. Berk, J.B. and Green, R.C. (2004) Mutual fund flows and performance in rational markets. Journal of Political Economy 112(6): 1269–1295.CrossRefGoogle Scholar
  5. Blake, C.R., Elton, E.J. and Gruber, M.J. (1993) The performance of bond mutual funds. Journal of Business 66(3): 371–403.CrossRefGoogle Scholar
  6. Brown, C.K., Harlow, W.V. and Starks, L.T. (1996) Of tournaments and temptations: An analysis of managerial incentives in the mutual fund industry. Journal of Finance 51(1): 85–110.CrossRefGoogle Scholar
  7. Cao, C., Ghysels, E. and Hatheway, F. (2011) Derivatives do affect mutual fund returns: Evidence from the financial crisis of 1998. Journal of Futures Markets 31(7): 629–658.CrossRefGoogle Scholar
  8. Carhart, M.M. (1997) On persistence in mutual fund performance. Journal of Finance 52(1): 57–82.CrossRefGoogle Scholar
  9. Chen, H., Desai, H. and Krishnamurthy, S. (2013) A first look at mutual funds that use short sales. Journal of Financial and Quantitative Analysis 48(3): 761–787.CrossRefGoogle Scholar
  10. Chen, J., Hong, H., Ming H. and Kubik, J.D. (2004) Does fund size erode mutual fund performance? The role of liquidity and organization. American Economic Review 94(5): 1276–1302.CrossRefGoogle Scholar
  11. Chen, Y. and Qin, N. (2016) The behavior of investor flows in corporate bond mutual funds. Management Science. doi: 10.1287/mnsc.2015.2372. (in press).
  12. Cici, G., Dahm, L. K. and Kempf, A. (2015) Trading efficiency of fund families: Impact on fund performance and investment behavior. Working paper, College of William & Mary, University of Cologne, http://papers.ssrn.com/abstract_id=2514203, accessed 13 March 2016.
  13. Cici, G. and Gibson, S. (2012) The performance of corporate bond mutual funds: Evidence based on security-level holdings. Journal of Financial and Quantitative Analysis 47(1): 159–178.CrossRefGoogle Scholar
  14. Cici, G. and Palacios, L.F. (2015) On the use of options by mutual funds: Do they know what they are doing? Journal of Banking and Finance 50: 157–168.CrossRefGoogle Scholar
  15. Clifford, C.P., Fulkerson, J.A., Hong, X. and Jordan, B.D. (2014) Investment restrictions and fund performance. Working paper, University of Kentucky, http://papers.ssrn.com/abstract=2485518, accessed 17 July 2015.
  16. Coles, J.L., Naveen, D.D. and Naveen, L. (2008) Boards: Does one size fit all? Journal of Financial Economics 87(2): 329–356.CrossRefGoogle Scholar
  17. Comer, G. and Rodriguez, J. (2013) A comparison of corporate versus government bond funds. Journal of Economics and Finance 37(4): 495–510.CrossRefGoogle Scholar
  18. Deli, D.N. and Varma, R. (2002) Contracting in the investment management industry: Evidence from mutual funds. Journal of Financial Economics 63(1): 79–98.CrossRefGoogle Scholar
  19. Dimson, E. (1979) Risk measurement when shares are subject to infrequent trading. Journal of Financial Economics 7(2): 197–226.CrossRefGoogle Scholar
  20. Elton, E.J., Gruber, M.J. and Blake, C.R. (1995) Fundamental economic variables, expected returns, and bond fund performance. Journal of Finance 50(4): 1229–1256.CrossRefGoogle Scholar
  21. Evans, R. B. (2010) Mutual fund incubation. Journal of Finance 65(4): 1581–1611.CrossRefGoogle Scholar
  22. Evans, R.B., Ferreira, M.A. and Prado, M.P. (2016) Fund performance and equity lending: Why lend what you can sell? Review of Finance. doi: 10.1093/rof/rfw059 (in press).
  23. Fama, E. and French, K. (1993) Common risk factors in the returns on stocks and bonds. Journal of Financial Economics 33(1): 3–56.CrossRefGoogle Scholar
  24. Fama, E.F. and French, K.R. (2008) Average returns, b/m, and share issues. Journal of Finance 63(6): 2971–2995.CrossRefGoogle Scholar
  25. Fama, E. and French, K. (2010) Luck versus skill in the cross-section of mutual fund returns. Journal of Finance 65(5): 1915–1947.CrossRefGoogle Scholar
  26. Ferreira, M., Keswani, A., Miguel, A. and Ramos, S. (2012) The determinants of mutual fund performance: A cross-country study. Review of Finance 17(2): 483–525.CrossRefGoogle Scholar
  27. Ferson, W., Henry, T.R. and Kisgen, D.J. (2006) Evaluating government bond fund performance with stochastic discount factors. Review of Financial Studies 19(2): 423–455.CrossRefGoogle Scholar
  28. Frino A., Lepone A. and Wong B. (2009) Derivative use, fund flows and investment manager performance. Journal of Banking & Finance 33(5): 925–933.CrossRefGoogle Scholar
  29. Fong, K., Gallagher, D.R. and Ng, A. (2005) The use of derivatives by investment managers and implications for portfolio performance and risk. International Review of Finance 5(1/2): 1–29.CrossRefGoogle Scholar
  30. Fulkerson, J.A., Jordan, B.D. and Riley, T.B. (2014) Return chasing in bond funds. Journal of Fixed Income 22(4): 90–103.CrossRefGoogle Scholar
  31. Huang, J. and Wang, Y. (2014) Timing ability of government bond fund managers: Evidence from portfolio holdings. Management Science 60(8): 2091–2109.CrossRefGoogle Scholar
  32. Huij, J. and Derwall, J. (2008) “Hot Hands” in bond funds. Journal of Banking & Finance 32(4): 559–572.CrossRefGoogle Scholar
  33. Investment Company Institute ICI. (2016) Investment Company Factbook 2016. A Review of trends and activity in the U.S. investment company industry 55.Google Scholar
  34. Leland, H. (1999) Beyond mean-variance: Performance measurement in a nonsymmetrical world. Financial Analysts Journal 55(1): 27–36.CrossRefGoogle Scholar
  35. Lynch-Koski, J. and Pontiff, J. (1999) How are derivatives used? Evidence from the mutual fund industry. Journal of Finance 54(2): 791–816.CrossRefGoogle Scholar
  36. Natter, M., Rohleder, M., Schulte, D. and Wilkens, M. (2016) The benefits of option use by mutual funds. Journal of Financial Intermediation 26: 142–168.CrossRefGoogle Scholar
  37. Newey, W.K. and West, K.D. (1987) A simple, positive semi-definite, heteroskedasticity and autocorrelation consistent covariance matrix. Econometrica 55(3): 703–708.CrossRefGoogle Scholar
  38. Pastor, L., Stambaugh, R.F. and Taylor, L.A. (2015) Scale and skill in active management. Journal of Financial Economics 116: 23–45.CrossRefGoogle Scholar
  39. Petersen, M.A. (2009) Estimating standard errors in finance panel data sets: Comparing approaches. Review of Financial Studies 22(1): 435–480.CrossRefGoogle Scholar
  40. Pinnuck, M. (2004) Stock preferences and derivative activities of Australian fund managers. Accounting and Finance 44(1): 97–120.CrossRefGoogle Scholar
  41. Pontiff, J. and Woodgate, A. (2008) Share issuance and cross-sectional returns. Journal of Finance 63(2): 921–945.CrossRefGoogle Scholar
  42. Rohleder, M., Schulte, D. and Wilkens, M. (2017) Management of flow risk in mutual funds. Review of Quantitative Finance & Accounting 48(1): 31–56.CrossRefGoogle Scholar
  43. Schwarz, C.G. (2012) Mutual fund tournaments: The sorting bias and new evidence. Review of Financial Studies 25(3): 913–936.CrossRefGoogle Scholar
  44. Simutin, M. (2014) Cash holdings and mutual fund performance. Review of Finance 18(4): 1425–1464.CrossRefGoogle Scholar

Copyright information

© Macmillan Publishers Ltd 2017

Authors and Affiliations

  • Markus Natter
    • 1
  • Martin Rohleder
    • 1
    Email author
  • Dominik Schulte
    • 2
  • Marco Wilkens
    • 1
  1. 1.Chair of Finance and BankingUniversity of AugsburgAugsburgGermany
  2. 2.Tecta Invest GmbHMunichGermany

Personalised recommendations