Diversification of risk exposure through country mutual funds under alternative investment opportunities

Abstract

Abstract This paper examines the behavior of time variation in the risk exposure of country mutual funds to the movements of the US and benchmark foreign markets. It uses weekly data on 15 closed end funds and 19 exchange traded funds for the sample period between January, 2001 and December, 2012. Conditional factor models are employed to uncover the time variation in the estimated betas through short window regressions. The findings of the paper indicate considerable time variation in risk exposure of country mutual funds to the US market and foreign market risk factors. The US market betas exhibit greater variation over the sample period than the target foreign market betas. The overall fluctuation in betas for the closed end funds is found to be higher than that for the exchange traded funds, and emerging market funds experience more oscillation in the risk exposure than their developed market counterparts. We also find that a combination of the US macroeconomic state variables and investors’ sentiment significantly predicts future betas.