Swing Pricing and Fragility in Open-End Mutual Funds

Abstract

How to prevent runs on open-end mutual funds? In recent years, markets have observed an innovation that changed the way open-end funds are priced. Alternative pricing rules (known as swing pricing) adjust funds' net asset values to pass on funds' trading costs to transacting shareholders. Using unique data on investor transactions in U.K. corporate bond funds, we show that swing pricing eliminates the first-mover advantage arising from the traditional pricing rule and significantly reduces redemptions during stress periods. The stabilizing effect is internalized particularly by institutional investors and investors with longer investment horizons. The positive impact of alternative pricing rules on fund flows reverses in calm periods when costs associated with higher tracking error dominate the pricing effect.

Keywords: fragility, fund runs, liquidity mismatch, strategic complementarity, swing pricing

JEL Classification: G10, G2, G23