Yes, obviously there could be liquidity mismatches

Turmoil in bond markets and a spike in the number of investors wanting to withdraw money “raises questions” about the suitability of popular bond funds, leading analysts have suggested.

Bond funds – where savers’ cash is pooled and then invested in loans issued by governments and companies – are among the most popular holdings in savers’ Isas and pensions.

But analysts Manuel Arrive and Alastair Sewell of Fitch, the ratings agency, this week questioned whether these funds could withstand a rush to the exit by investors alarmed by a fall in bond prices.

They have suggested restricting withdrawals to weekly intervals and requiring more advanced notice as potential countermeasures.

They argue that while these funds allow withdrawals to be made on a daily basis, their managers may struggle to sell holdings quickly enough to be able to pay out. The technical term for this is a “liquidity mis-match”.

Mr Arrive said current markets raised doubts “about the suitability of open-end, daily traded funds for less liquid or illiquid assets”.

Well, err, quite. In fact, who thinks open ended funds in illiquid securities is a good idea in the first place?

10 thoughts on “Yes, obviously there could be liquidity mismatches”

  1. It used to be (as I understand it, but I’m no expert) that Investment Trusts were at a tax disadvantage compared to Unit Trusts in holding bonds. And, of course, UTs had the advantage of being very lucrative for financial advisers and others. So it was natural that open-ended funds of bonds became popular. Whether they are quite as idiotic an idea as open-ended property funds we shall have to see.

  2. Lots of them, different maturities…..therefore each one is rarely traded. Treasuries and gilts are liquid, yes, corporate bons mostly not. They get issued, sold once and then stay in that one account until redeemed.

  3. ETFs are probably the best way to solve this problem for the individual investor. The shares are pretty liquid, and if their value diverges too far from the underlying, market makers can create/redeem and trade the bonds in bulk.

  4. The original Investment Trust was set up to hold a portfolio of bonds in (inter alia) US Railways because they offerred a superior risk-adjusted return but were illiquid. Investors who needed cash were able to sell their shares (usually at a discount) to some other (usually also Scottish) investor.
    ITs are the *correct* mode of investment in illiquid assets.

  5. BiF

    On the run Treasuries, Bunds, Gilts are hugely liquid. The 10y US Treasury bond is probably the most liquid long-dated instrument in the world. But Slovenian govies are illiquid, and many corporate bonds trade once a month or year at best. It’s not about the bond market, it’s about individual instruments.

  6. @ bif
    There is a liquidity premium for gilts versus bonds – it used to be 1% for high-class debentures where the risk was negligible – now it can be as low as 0.5% for AAA-rated bonds

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