Risk Exposure of Country Mutual Funds across Bull and Bear Markets

This paper examines whether country mutual funds respond differently to the up– and down-side conditions in its underlying risk factors, namely, return on the US market, the foreign benchmark and the foreign exchange market. Our sample includes 15 CEFs and 19 ETFs that are traded in the US financial markets and designed to mimic performances of certain foreign country benchmarks. Using a 3–factor pricing model, we run pooled regressions on the full sample as well as four subsamples. Empirical results obtained from a number of explorative regression specifications indicate that country funds respond differently to the up– and down–phases for the mainly US market returns. Moreover, the downside beta for the US market is found to be greater in magnitude than the upside beta. On the other hand, the country funds returns seem to have a single beta for each of the other two risk factors. A possible explanation is presented based on the relationship between the country funds and the up– and down– phases in the US market. The findings of the paper have important implications for investors with regards to their effort to diversify across borders and to design optimal asset allocation.