Comments on "The role of different institutional investors in Asia-Pacific bond markets during the taper tantrum"

Ng, Shim and Pastor examine the dynamics of bond prices during the 2013 taper tantrum. During times of high uncertainty, bond markets can become illiquid as some of the investors experience funding liquidity shocks. This can lead to sharp drops in bond prices, ie sharp increases in bond yields, beyond what are warranted by the changes in fundamentals. The authors analyse the markets for bonds issued by countries and corporates of Asia-Pacific countries. Such sovereign and corporate bonds have increased significantly over the past two decades. Given the still relatively low trading volumes in these markets, they seem particularly vulnerable to shocks in funding liquidity to the bondholders. Studies of bondholders typically focus on the durations of their fixed income assets. In contrast, the authors focus on the variation in the durations of bondholders’ liabilities, and how these can affect prices in the bond markets. Due to the long duration of their liabilities, insurance companies and pension funds can hold bonds until maturity, and do not have to react to changes in market conditions. In contrast, bond mutual funds tend to have short liability durations, as they are likely to face fund outflows, ie redemptions, particularly during adverse market conditions. These short-duration bondholders can have a disproportionate effect on bond prices in the absence of sufficient capital from long-duration bondholders. This can end up exacerbating adverse market conditions and lead to downward spirals in bond prices.