Synthetic leverage and fund risk-taking

Abstract

This paper studies mutual fund risk-taking through synthetic leverage. For this purpose, I propose a novel measure of synthetic leverage that does not rely on confidential regulatory data. In my empirical analysis of German equity funds, I find that synthetic leverage strongly contributes to overall risk-taking. Importantly, a simple validation exercise based on regulatory data indicates that synthetically leveraged funds indeed display larger derivatives exposures. Overall, these results indicate that synthetic leverage should be closely monitored.