Thread by @ReformedTrader

1/ Beware of Chasing Yield: Bond Fund Yield, Flows and Performance (Jiang, Li, Zheng)

"Investors chase bond funds with higher yields, even controlling for past returns. The return spread is less than half of the yield spread and comes from higher risk."

papers.ssrn.com/sol3/papers.cf…

2/ "We select all actively managed fixed-income funds except money market and municipal bond funds.

"The higher distribution yield comes mainly from the SEC yield being net of expenses.

"The distribution yield is fat-tailed; managers have more discretion over distributions."

3/ "Fund yield is a component of total fund returns. The incremental effect of yield on flows shows that mutual fund investors pay extra attention to the yield component of the return.

"Bond funds with higher yields compared with peers in the same groups enjoy higher inflows."

4/ "Retail investors chase distribution yield; institutions do not. Both groups chase SEC yield.

"This could reflect a difference in sophistication: an abnormally high distribution yield suggests that fund managers dispose fund assets at the expense of long-term performance."

5/ "Coefficients for yields and past returns are large and strongly significant in Columns 1-3 but close to zero in Columns 4-6.

"In a high (low) rate regime, investor may perceive bond funds as homogeneous (be more selective in picking funds, especially for higher yield)."

6/ "Higher yield bond funds deliver higher returns, but the return spread is less than half of the yield spread between the top and bottom decile portfolios.

"Investors may be disappointed if they believe that quoted fund yields represent average future fund returns."

7/ "High-yield bond funds accumulate small gains over an extended period, but when small-probability events such as financial crises arrived, they were hard-hit with extreme losses. This is in line with the conjecture that managers take on hidden risks in reaching for yield."

8/ "High-yield bond funds look less like safe-haven assets and more like high-duration, low-quality bonds and equities. The higher average returns on high-yield bonds (3.31%/year EW and 3.06% cap-weighted) dissipate to below 1%, economically small and statistically insignicant."

9/ "Using Δspread between 10-year and 1-year Treasury yields (interest-rate risk), Δspread between Moody's seasoned Baa corporate bond yield and 10-year Treasury yield (credit risk), and ΔVIX (liquidity risk), high-yield bond funds appear more risky than their low-yield peers."

10/ "When crisis hits the financial market, investors stampede away instead of reaching for yield.

"For example, Column 1 indicates that the slope coefficient for the interaction term is -0.43, which is almost 4x the magnitude of the coefficient for the SEC yield, 0.11."

11/ "The narrative of the performance and investor flows of high-yield bond funds during the COVID-19 crisis reinforces the thesis that these funds are inherently more risky and that investors tend to sell in panic when crisis hits."

12/ Related research:

Rational Reminder podcast episode on fixed-income factor investing (thread with links to papers)

https://twitter.com/ReformedTrader/status/1368357840029507584

Corporate Bond Default Risk: A 150-Year Perspective

https://twitter.com/ReformedTrader/status/1372672148683198467