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Dynamic Liquidity Management by Corporate Bond Mutual Funds

Published online by Cambridge University Press:  22 June 2020

Hao Jiang ,
Dan Li  and
Ashley Wang Open the ORCID record for Ashley Wang [Opens in a new window]
Hao Jiang
Affiliation:
Michigan State University Department of Financejiangh@broad.msu.edu
Dan Li
Affiliation:
Board of Governors of the Federal Reserve Systemdan.li@frb.gov
Ashley Wang*
Affiliation:
Board of Governors of the Federal Reserve Systemashley.wang@frb.gov
*
ashley.wang@frb.gov (corresponding author)
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Abstract

How do corporate bond mutual funds manage liquidity to meet investor redemptions? We show that during tranquil market conditions, these funds tend to reduce liquid asset holdings to meet redemptions, temporarily increasing relative exposures to illiquid asset classes. When aggregate uncertainty rises, however, they tend to scale down their liquid and illiquid assets proportionally to preserve portfolio liquidity. This fund-level dynamic management of liquidity appears to affect the broad financial market: Redemptions from the corporate bond fund sector lead to more corporate bond selling during high-uncertainty periods, which generates price pressures and predicts strong return reversals.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 56 , Issue 5 , August 2021 , pp. 1622 - 1652
Copyright
© The Author(S), 2020. Published By Cambridge University Press On Behalf Of The Michael G. Foster School Of Business, University Of Washington

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Footnotes

We thank Amber Anand (the referee) and Hendrik Bessembinder (the editor) for their very helpful comments. We also thank Patrick Bolton, Chris Clifford, Jennifer Huang, Xuewen Liu, and Claudio Raddatz and conference and seminar participants at the 2018 American Finance Association Annual Meeting, the 2017 Asset Management Conference of the European School of Management and Technology (ESMT), the 2017 Financial Stability Board Analytical Group on Vulnerabilities Workshop, China Europe International Business School, City University of New York (CUNY) Baruch College, the Federal Reserve Board, Fudan University, Nanjing University, Peking University, the U.S. Securities and Exchange Commission (SEC), the Shanghai Advanced Institute of Finance, Tsinghua University, and the University of Hong Kong. We thank the European Financial Management Association for its 2018 Global Association of Risk Professionals (GARP) Risk Management Research Award. The views presented here are solely those of the authors and do not represent those of the Federal Reserve Board or its staff.

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