Minimum Maturity Rules: The Cost of Selling Bonds Before Their Time
41 Pages Posted: 22 Oct 2011
Date Written: October 14, 2011
We show that the performance of traditional fixed income index funds is being negatively impacted by minimum maturity rules established by the indices that these funds seek to replicate. Bonds removed from the index because of minimum maturity rules underperform a matched sample in the two month period surrounding their removal. A portfolio consisting of the fixed income fund and bonds previously removed from the fund by operation of the minimum maturity rule outperforms the fund itself on a risk-adjusted basis. We demonstrate that the relaxation of the minimum maturity index rule could result in improved performance for a highly popular index-based fixed income ETF.
Keywords: Bond Index, Fixed Income Index Funds, Fixed Income ETFs, Index Construction Rules
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