Assessing the Macroprudential Impact of Liquidity Management Tools for Investment Funds: A System-Wide Analysis

Authored by Antoine Baena, Matthias Sydow, and Garbrand Wiersema, this analysis is published in the Financial Stability Review of May 2026. It delves into the systemic risks caused by liquidity mismatches in open-ended investment funds, emphasizing that these mismatches can lead to significant economic vulnerabilities when redemption pressures coincide with illiquid markets.

During financial stress, substantial outflows can compel funds to sell assets at discounted prices, which can trigger a cascade effect where declining asset values result in accelerated investor redemptions, mimicking a run-like scenario. The past few years have revealed multiple instances of liquidity stress within the fund sector; most notably, the market turmoil following the COVID-19 pandemic saw approximately 140 investment funds in the European Economic Area suspending redemptions from March to May 2020 due to valuation uncertainties and excessive withdrawal requests.

To address these liquidity risks, EU regulations mandate that investment funds, in accordance with the UCITS VI and AIFMD II directives, implement at least two liquidity management tools (LMTs) effective from April 16, 2026. The European Securities and Markets Authority (ESMA) advocates for the adoption of at least one price-based LMT and one quantity-based LMT among a selection of eight authorized tools.

Price-based LMTs, such as anti-dilution levies (ADLs), aim to allocate the costs of share redemptions to those investors who choose to redeem, thus safeguarding the interests of the remaining investors by minimizing dilution of the fund’s value. Specifically, ADLs imposed on redeeming investors are calibrated against the expected transaction costs their redemptions incur. On the other hand, quantity-based LMTs focus on alleviating redemption pressures by restricting the volume of withdrawals permitted, such as through redemption gates that limit the total redemptions to a fixed percentage of the fund’s net assets within specified timeframes.

This report also employs a system-wide agent-based model of the European financial system to quantify the impact of these measures on investment funds and banks. The model gauges the first-round effects on asset valuations stemming from adverse scenarios simulated in the 2025 EU-wide stress test, which encompasses banks, investment funds, and insurers. It also examines how external investor redemption patterns adjust in light of scenario-induced losses, along with assessing the consequences of implementing LMTs on subsequent liquidity dynamics.

The findings indicate that the use of redemption gates reallocates redemption demands across various funds, directing pressures away from the more vulnerable funds towards those that exhibit greater resilience. For instance, the data suggests that imposing a redemption gate of around 2% could balance outflows significantly. This translates to an increase in outflows from larger equity funds, contrasted with a decrease in outflows from smaller, less liquid, and more vulnerable bond funds.

Furthermore, the adoption of strategically calibrated redemption gates has the potential to safeguard fragile funds while simultaneously maintaining adequate liquidity levels in other sectors such as banking. A 2% gate, while restrictive, typically only has a minor impact on total sector liquidity, suggesting minimal risks of creating liquidity bottlenecks.

The application of anti-dilution levies can facilitate substantial liquidity transfers, especially benefitting funds facing high liquidation costs. The calculation of these levies impacts total asset values and reallocates cash among funds, predominantly transferring liquidity from banks to struggling funds. Historical trends demonstrate that these levies may operate to mitigate losses during crises and prevent forced asset liquidations at depressed valuations.

In sum, when effectively and consistently applied, liquidity management tools can bolster the stability of the fund sector, reduce the potential of dilution, and mitigate negative spillovers to the broader financial ecosystem. However, it is critical to recognize the possible emergence of new investor behaviors that may induce pre-emptive redemptions when thresholds for redemption gates or ADLs are approached.