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LTCM Redux? Hedge fund Treasury trading, funding fragility, and risk constraints

Author

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  • Kruttli, Mathias S.
  • Monin, Phillip J.
  • Petrasek, Lubomir
  • Watugala, Sumudu W.

Abstract

We exploit the 2020 Treasury market shock to analyze how external and internal constraints impact arbitrageurs. Using regulatory filings, we find that hedge funds reduced arbitrage activities and increased cash holdings, despite stable credit and low contemporaneous redemptions. Creditors’ regulatory and liquidity constraints were not propagated to hedge funds through repo—Treasury arbitrageurs’ predominant financing source. Fund-creditor borrowing data reveal more regulated dealers provided, and more important clients received, disproportionately higher funding. Value-at-risk reported by funds suggests internal risk constraints were binding. Our results support theoretical predictions that arbitrageur risk constraints and precautionary liquidity management can amplify market instability even when contemporaneous financing remains resilient.

Suggested Citation

  • Kruttli, Mathias S. & Monin, Phillip J. & Petrasek, Lubomir & Watugala, Sumudu W., 2025. "LTCM Redux? Hedge fund Treasury trading, funding fragility, and risk constraints," Journal of Financial Economics, Elsevier, vol. 169(C).
    • Handle: RePEc:eee:jfinec:v:169:y:2025:i:c:s0304405x2500025x
    DOI: 10.1016/j.jfineco.2025.104017
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    Keywords

    Hedge funds; Treasury markets; Arbitrage; Value-at-risk; Risk constraints; Liquidity; Creditor constraints; Relative value;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
    • G01 - Financial Economics - - General - - - Financial Crises

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