Fragile Liquidity: Analysis of the Mutual Fund Liquidity Risk Management Rule

62 Pages Posted: 9 Feb 2020 Last revised: 16 Nov 2021

See all articles by Tim Park

Tim Park

The University of Texas at Austin

Date Written: October 28, 2021

Abstract

I study unintended consequences of the Liquidity Risk Management Rule adopted by the SEC in 2016. The rule imposes an upper bound for illiquid assets and a lower bound for liquid assets in mutual fund portfolios. In response to the regulation, corporate bond mutual funds shift their portfolios toward liquid corporate bonds. The ownership shift to liquid corporate bonds decreases the performance of funds and increases the comovement among the underlying liquid assets. Higher comovement among liquid corporate bonds increases the volatility in liquid corporate bond funds. However, I find little evidence of stabilized fund flows. Overall, reducing fragility in mutual funds using portfolio constraints has unintended consequences.

Keywords: mutual funds, corporate bonds, liquidity management, return comovement

JEL Classification: G11, G18, G23, G28

Suggested Citation

Park, Tim, Fragile Liquidity: Analysis of the Mutual Fund Liquidity Risk Management Rule (October 28, 2021). Available at SSRN: https://ssrn.com/abstract=3515720 or http://dx.doi.org/10.2139/ssrn.3515720

Tim Park (Contact Author)

The University of Texas at Austin ( email )

Red McCombs School of Business
Austin, TX 78712
United States

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