DP6893 Time-Varying Incentives in the Mutual Fund Industry

Author(s): Jacques Olivier, Anthony Tay
Publication Date: June 2008
Keyword(s): Business Cycle, Convexity, Flow-performance Relationship, Incentives, Mutual Funds
JEL(s): G11, G23
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=6893

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.