ABSTRACT Poor financial health of intermediaries coincides with low asset prices and high risk premiums. Is this because intermediaries matter for asset prices, or because their health correlates with economy‐wide risk aversion? In the first case, return predictability should be more pronounced for asset classes in which households are less active. We provide evidence supporting this prediction, suggesting that a quantitatively sizable fraction of risk premium variation in several large asset classes such as credit or mortgage‐backed securities (MBS) is due to intermediaries. Movements in economy‐wide risk aversion create the opposite pattern, and we find this channel also matters.

Abstract We document extreme disruption in debt markets during the COVID-19 crisis: a severe price crash accompanied by significant dislocations at the safer end of the credit spectrum. Investment-grade corporate bonds traded at a discount to credit default swaps; exchange-traded funds traded at a discount to net asset value, more so for safer bonds. The Federal Reserve’s announcement of corporate bond purchases caused these dislocations to disappear and prices to recover. These facts inform potential theories of the disruption. The best explanation is an acute liquidity need for specific bond investors, such as mutual funds, leading them to liquidate large positions.