Working Paper: CEPR ID: DP6893
Authors: Jacques Olivier; Anthony Tay
Abstract: This paper re-examines the incentives of mutual fund managers arising from investor flows. We provide evidence that the convexity of the flow-performance relationship varies with economic activity. We show that the effect is economically large and is not driven by abnormal years. We test two possible channels through which this pattern may arise. We investigate implications of the time-varying convexity for the incentives of managers to alter strategically the risk of their portfolios. We provide evidence that poor mid-year performers increase the risk of the portfolio only when economic activity is strong. Finally, we briefly discuss some methodological implications.
Keywords: Business Cycle; Convexity; Flow-Performance Relationship; Incentives; Mutual Funds
JEL Codes: G11; G23
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Economic activity (E29) | Convexity of the flow-performance relationship (D24) |
| GDP growth (O49) | Convexity of the flow-performance relationship (D24) |
| Poor midyear performance + Strong economic activity (E32) | Increased portfolio risk (G11) |
| Midyear performance + GDP growth (O49) | Manager risk-taking behavior (G40) |
| Economic activity (E29) | Sensitivity of flows to past performance (C22) |