Intermediary Balance Sheet Constraints, Bond Mutual Funds' Strategies, and Bond Returns

Publication Date

10-20-2023

Abstract

We show that after the introduction of leverage ratio constraints on bank-affiliated dealers, bond mutual funds have engaged in more liquidity provision in investment-grade corporate bonds and that the performance of funds with liquidity-supplying strategies has benefited. Not only have regulations transferred profits associated with liquidity provision in the corporate bond market to mutual funds, but the liquidity and returns of investment-grade corporate bonds have become more exposed to redemptions from the bond mutual fund industry, suggesting that the regulations may have made investment-grade corporate bonds more volatile. Accordingly, we observe that investment-grade corporate bonds more exposed to leverage ratio constraints experienced more severe deterioration in liquidity and returns at the onset of the COVID-19 pandemic.

Document Type

Article

Keywords

Bond mutual funds, Intermediary Constraints, Corporate Bonds, Liquidity, Leverage Ratio

Disciplines

Finance

DOI

10.2139/ssrn.4607843

Source

SMU Cox: Finance (Topic)

Language

English

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