Asset Market Liquidity, Strategic Complementarity, and Bond Fund Flows

63 Pages Posted: 25 Sep 2023 Last revised: 6 May 2024

See all articles by Xiaolu Hu

Xiaolu Hu

Royal Melbourne Institute of Technolog (RMIT University) - School of Economics, Finance and Marketing

Jung Hoon Lee

Office of Financial Research, US Department of the Treasury

Saurin Patel

Ivey Business School, Western University

Shyam Venkatesan

Ivey Business School, Western University

Date Written: August 22, 2023

Abstract

A concave flow-performance relation in bond mutual funds induces market fragility concerns. Strategic complementarity of the investor's strategy arising from an illiquid bond market or investor self-selection could lead to such concavity. In highly liquid markets, like the Chinese bond market, we demonstrate that bond funds have a convex flow-performance relation. Additionally, using an exogenous shock to market liquidity that reduces the advantage of frontrunning other investors, we causally show that the sensitivity of outflows to poor fund performance significantly diminishes. Overall, the underlying asset market's liquidity is pivotal in explaining bond fund investors' strategic redemption decisions.

Keywords: Bond mutual fund, Flow-performance sensitivity, Market structure

JEL Classification: G11, G20, G23

Suggested Citation

Hu, Xiaolu and Lee, Jung Hoon and Patel, Saurin and Venkatesan, Shyam Sunder, Asset Market Liquidity, Strategic Complementarity, and Bond Fund Flows (August 22, 2023). Available at SSRN: https://ssrn.com/abstract=4548682 or http://dx.doi.org/10.2139/ssrn.4548682

Xiaolu Hu

Royal Melbourne Institute of Technolog (RMIT University) - School of Economics, Finance and Marketing ( email )

Level 12, 239 Bourke Street
Melbourne, Victoria 3000
Australia

Jung Hoon Lee

Office of Financial Research, US Department of the Treasury ( email )

717 14th Street, NW
Washington, DC 20220
United States

Saurin Patel

Ivey Business School, Western University ( email )

1255 Western Road
Room 2303
London, Ontario N6G 0N1
Canada
519-661-4195 (Phone)

Shyam Sunder Venkatesan (Contact Author)

Ivey Business School, Western University ( email )

1151 Richmond St
London, Ontario N6A 3K7
Canada

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