Investment restrictions and fund performance

Abstract

We examine the effect of investment restrictions on mutual fund performance. Utilizing a unique panel of mutual fund contract changes, we explore several ways these changes affect a fund, including: performance, funding risk, and managerial contracting. We find that the general shift towards fewer restrictions over the period 1996–2011 has provided little benefit to mutual funds. Specifically, neither performance nor flow increased and we observe no changes in risk on average. We do find, however, an increased likelihood of management turnover when restrictions are removed. We conclude that contract restrictions do not explain the general underperformance of mutual funds, and that these investment restrictions are not binding. • The mutual fund industry has broadly decreased many of the investment restrictions. • The general shift towards fewer restrictions has provided little benefit to mutual funds. • Contract restrictions do not explain the general underperformance of mutual funds. • The investment restrictions on mutual funds are not binding.