Working Paper: CEPR ID: DP16635
Authors: Aleksandar Andonov; Joshua Rauh
Abstract: The return expectations of public pension funds are positively related to cross-sectional differences in past performance. This positive relation operates through the expected risk premium, rather than the expected risk-free rate or inflation rate. Pension funds act on their beliefs and adjust their portfolio composition accordingly. Persistent investment skills, risk-taking, efforts to reduce costly rebalancing, and fiscal incentives from unfunded liabilities cannot fully explain the reliance of expectations on past performance. The results are consistent with extrapolative expectations, as the dependence on past returns is greater when executives have personally experienced longer performance histories with the fund.
Keywords: institutional investors; pension funds; return expectations; asset allocation; extrapolation
JEL Codes: G02; G11; G23; G28; H75; D83; D84
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Past performance (G14) | Future return expectations (G17) |
| Return expectations (D84) | Target asset allocations to risky assets (G11) |
| Higher unfunded liabilities (H69) | Higher return expectations (G19) |
| Longer personal experiences with performance (D29) | Stronger relationship between past performance and future return expectations (G17) |
| Past performance (G14) | Adjustments to expectations (D84) |