A series of measures are eliminating toxic forms of shadow banking like these ‘constant net asset value’ money market funds.18  As a result, markets are safer to navigate. Shadow banking of old is transforming to more resilient market-based finance of today. So what need is there to dive into liquidity mismatch in investment funds? It’s certainly the case that any remaining risks are much smaller and more subtle than those around money market funds. Since the crisis, funds have flowed into open-ended investment funds that make no promise of redemption value: the investor bears the risk from the outset. They have few of the problems of the crisis money market funds. But these funds are increasingly invested in less liquid assets while continuing to offer next day redemption to investors. The share of corporate bonds held in open-ended funds in the UK and the Euro Area has increased by 70% since the crisis (slide 13). And their structure may create incentives for their investors to redeem in a stress, forcing fire sales of illiquid assets. I emphasise ‘may’ because we have not seen this on large scale in the past. Nevertheless, our duty is to ask whether we could see it in the future. The possibility at least arises because the price offered to redeeming investors is the ‘net asset value’ of the fund, calculated from quoted market prices of the assets they hold. Such quotes normally reflect standard trade sizes and prevailing market conditions.
12 9  See paragraph 17 of ‘Record of the Financial Policy Committee Meeting on 12 March 2018’, available here. The test included a sharp adjustment in corporate credit markets and commercial property markets. Sterling investment grade corporate bond yields were assumed to snap up almost 800bps as long-term gilt yields rose by over 500bps and credit spreads blew out. 11 International Monetary Fund (2018), ‘Global Financial Stability Report’ (April). 10  7  All speeches are available online at www.bankofengland.co.uk/speeches  7  So let’s look at some of the icebergs present in 2008, what’s been done to deal with them, and where dives into the deep are now warranted – by investors and policymakers – to assess whether new – albeit smaller – bergs may be lurking. The first of these icebergs is leverage. Specifically, leverage arising from use of derivatives. Cast your minds back to 2008 and AIG (see slide 10). It had written $ of credit default swaps on mortgage-backed securities. It had in effect taken its insurance business to mortgage bonds. Because of its triple-A credit rating, few of those buying the insurance asked AIG for any collateral. 13  That had two consequences. First, as its prospective losses on mortgage bond insurance increased and its own credit downgraded, AIG was suddenly required to put up $ of collateral. As it scrambled to find that collateral, it was forced into firesales of assets.