A Deep Dive Into Liquidity Management Tools

We investigate the usage of liquidity management tools (LMTs) in open-ended mutual funds, focusing on the effectiveness of LMT usage, rather than just availability, in reducing the first-mover advantage motive for run-like redemptions from funds with liquidity mismatches. Although purposefully designed to mitigate fund fragility, and often regarded by regulators as having macroprudential benefits, usefulness and effectiveness of LMTs in practice is still subject to some debate. This paper studies this problem utilizing a large-scale survey conducted by the Central Bank of Ireland, a rare and valuable data for the usage of LMTs within a substantial cohort of EU-regulated funds. We show that quantity-based LMTs, although widely available, are rarely used by funds. In contrast, price-based LMTs, despite being less widely available, are often used. We consider the use of LMTs as an endogenous decision reflecting the flightiness of investors and the fund investment strategy. We address this endogeneity issue with fund family’s LMT availability as an instrument. We find that the use of price-based LMTs significantly reduces the risk of large net outflows and improves performance when funds are under stress. The identified effects are stronger than those for the availability of price-based LMTs. Among the individual price-based LMTs, full swing pricing has the strongest effects.