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Review of Financial Studies Vol. 38 No. 2 2025

Does Liquidity Management Induce Fragility in Treasury Prices? Evidence from Bond Mutual Funds

Shiyang Huang1; Wenxi Jiang2; Xiaoxi Liu3; Xin Liu4

1 Faculty of Business and Economics, The University of Hong Kong, Hong Kong; · 2 CUHK Business School, The Chinese University of Hong Kong, Hong Kong · 3 Bank for International Settlements · 4 Faculty of Business Administration, University of Macau , Macau,

Abstract

Mutual funds investing in illiquid corporate bonds actively manage Treasury positions to buffer redemption shocks. This liquidity management practice can transmit non-fundamental fund flow shocks onto Treasuries, generating excess return volatility. Consistent with this hypothesis, we find that Treasury excess return volatility is positively associated with bond fund ownership, and this pattern is more pronounced among funds conducting intensive liquidity management. Causal evidence is provided by exploiting the U.S. Securities and Exchange Commission’s 2017 Liquidity Risk Management Rule. Evidence also suggests that the COVID-19 Treasury market turmoil was attributed to intensified liquidity management, an unintended consequence of the 2017 Liquidity Risk Management Rule.

DOI
10.1093/rfs/hhae082
Volume
38
Issue
2
Pages
337-380
Language
en
Sources
bibtex:phds-export.bib openalex crossref

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