Collateral Pledgeability and Asset Manager Portfolio Choices During Redemption Waves

Abstract

This paper studies whether Eurosystem collateral eligibility played a role in the portfolio choices of euro area asset managers during the “dash-for-cash” episode of 2020. We find that asset managers reduced their allocation to ECB-eligible corporate bonds, selling them in order to finance redemptions, while simultaneously increasing their cash holdings. These findings add nuance to previous studies of liquidity strains and price dislocations in the corporate bond market during the onset of the Covid-19 pandemic, indicating a greater willingness of dealers to increase their inventories of corporate bonds pledgeable with the ECB. Analysing the price impact of these portfolio choices, we also find evidence pointing to sustained price pressure for both ECB-eligible and ineligible corporate bonds. Bonds that were sold to a larger extent by investment funds in our sample experienced higher price pressure. While the price impact was generally lower and less sustained for ECB-eligible bonds, the difference was primarily due to lower and less sustained price pressure on bonds issued by banks. Additionally, we discuss the broader implications of these findings for monetary policy transmission and financial stability as well as the policy debate on how central banks can better mitigate similar liquidity shocks in the future.

Keywords: Investment Funds, Dash-for-Cash, Corporate Bonds, Eurosystem Collateral Eligibility

JEL Classification: G11, G23