Bond mutual funds are classified by Morningstar as ultra short, short, intermediate or long-term. Bond mutual funds have found a way to hold long-term bonds while being classified as ultra-short or short.
In this paper, we demonstrate how the losses suffered by these funds in 2008 can be explained by the increasing credit risks of holding long-term bonds. Furthermore, we find that the classification of these funds as ultra-short or short is clearly inconsistent with the Securities and Exchange Commission’s (SEC) definition.
We recommend that mutual funds report simple weighted average maturity to protect investors from misunderstanding the risks of their bond mutual funds.