Amber Anand, Chotibhak Jotikasthira, Kumar Venkataraman
Review of Financial Studies, Forthcoming
Publication year: 2020

We examine the role of buy-side institutions as liquidity suppliers in bond markets. Focusing on mutual funds, we classify a fund’s trading style as liquidity supplying (demanding) if the fund helps absorb (strain) dealers’ inventory.  While mutual funds in aggregate demand liquidity, persistent cross-sectional variation exists – stable funding, family affiliation with dealers, and fund manager skill are associated with liquidity supply. Liquidity supplying trading style earns higher alpha, especially in illiquid markets.  Our evidence suggests that bond market liquidity can be enhanced by removing institutional frictions that impede broad investor participation in liquidity provision.

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