Reaching for Yield in Corporate Bond Mutual Funds

Abstract

We study reaching for yield among corporate bond mutual funds. In a low-interest-rate environment, funds may seek to invest in bonds with relatively higher yields than their benchmarks in order to attract flows. We show that funds engage in more reaching for yield when the level and slope of the yield curve are low and when the default spread is narrow. The funds that engage in reaching for yield are also exposed to greater illiquidity, exacerbating redemption risks. Younger and larger funds engage in more reaching for yield. When funds actively shift their portfolio towards higher yields, they experience higher inflows, indicating that investors respond positively to this behavior. Funds that * We thank Charles Trzcinka and seminar participants at the

Investor behaviour and reaching for yield: Evidence from the sterling corporate bond market

“…This holds between ratings, maturities and within a rating and maturity category. Our finding underlines the intrinsic incentives to 'reach for yield' in the asset management industry: being compensated based on both assets under management and relative investment performance, portfolio managers can generate additional inflows and beat their benchmark by moving into higher yielding bonds (Choi & Kronlund, 2017).…”

“…We perform a cross‐sectional analysis to test whether investors tilt their portfolios towards bonds with higher yields relative to other bonds in the same rating and/or maturity categories. As in Choi and Kronlund (), we construct three ‘reaching for yield’ factors: 1. ‘Reaching for rating’ (RFR) : …”

“…In Panel B, the dependent variable is the logarithm of the amount sold for each bond i during week t; also separately measured for each investor type. As in Choi and Kronlund (2017), 'RFR i,t−1 ' is a lagged 'reaching for rating' measure and captures the higher yield that can be attributed to holding lower rated bonds. 'RFM i,t−1 ' is a lagged 'reaching for maturity' measure and captures the higher yield that can be attributed to holding longer maturity bonds while keeping the rating class constant.…”

“…What drives the heterogeneous behaviour across different investor types? In the US corporate bond market, 'reaching for yield' has been cited as a key driver of investor behaviour (see, e.g., Becker & Ivashina, 2015;Choi & Kronlund, 2017;Kacperczyk & Schnabl, 2013). Therefore, we explore the heterogeneity in the 'reaching for yield' behaviour across investor types in the sterling corporate bond market.…”

Unconventional Monetary Policy and Risk-Taking: Evidence from Agency Mortgage REITs

“…Specifically, very low interest rate environments may make asset managers more sensitive to a funds' performance relative to peers, inducing them to take-on more risk. Related empirical evidence is provided by Chodorow-Reich (2014), DiMaggio and Kacperczyk (2014), and Choi and Kronlund (2018), each of whom finds evidence of heightened risk-taking by different types of non-bank financial institutions since the Federal Reserve began QE. 4 This paper examines a set of financial institutions that grew markedly during the Federal Reserve's balance sheet expansion: Agency Mortgage REITs (Agency MREITs).…”