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Risk-taking and performance of government bond mutual funds
Institution:1. The Sir John Cass Business School, City University, London, UK;2. Cork University Business School and Centre for Investment Research, University College Cork, Ireland
Abstract:This paper investigates the risk exposures of government bond mutual funds and how risk-taking behavior affects fund performance. Government bond mutual funds often outperform their respective benchmark bond indexes before but not after adjusting for bond market risk factors. We show that the risk-taking behavior of fund managers helps to explain the different performances of government bond funds with and without controlling for the risk factors. Our results suggest that risk-taking leads to higher returns relative to benchmarks in normal risk periods but lower returns in high risk periods, suggesting that fund managers consistently take risky bets in fund management. We further show that the risk-taking of government bond funds is persistent and that investors typically have no ability to differentiate between the skill and risk components of fund performance. These findings suggest why fund managers have incentives to take consistently risky positions.
Keywords:Government bond funds  Incentives  Risk-taking  Performance  Fund flows
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