Liquidity Management in Fixed Income Portfolios

A globally diversified bond fund is currently managing a portfolio that consists of government bonds, corporate bonds, and emerging market debt. The portfolio manager faces challenges relating to liquidity management, especially as market conditions shift due to an impending economic downturn.

Recent analysis shows that the corporate bonds in the portfolio are less liquid compared to government bonds, especially in times of market stress. The manager is concerned that this reduced liquidity might prevent effective rebalancing of the portfolio or responding to potential outflows driven by investor redemptions.

Given this context, discuss how the portfolio manager should approach liquidity management within the fixed income portfolio. Address the following specific points in your response:

• Assess the current liquidity of the portfolio's components.
• Formulate a strategy for maintaining adequate liquidity in the portfolio without compromising returns.
• Outline methods to assess and mitigate liquidity risk in fixed income portfolios.
• Consider the role of liquidity provisions in both normal and stressed market conditions.