Corporate bond market liquidity
Create account Login Subscribe. Tobias Adrian, Michael J. Fleming, Or Shachar 14 September The potential adverse effects of regulation on market liquidity in the post-crisis period corporate bond market liquidity to receive significant attention. Nonetheless, there is little evidence of a wide-spread deterioration in market liquidity.
The stagnation of dealer balance sheets that began after the financial crisis of has persisted, as shown in Figure 1 below. Figure plots the total financial assets of security brokers and dealers at the subsidiary level.
Leverage peaked at Leverage remained fairly steady untilbut has since trended down, reaching The figure shows the leverage of security brokers and dealers at the subsidiary level. Consistent with stagnant dealer balance sheets, arbitrage measures suggest less abundant funding liquidity. Figure 3, for example, plots the credit default swap CDS -bond basis, calculated as the average difference between each bond's market CDS spread and the theoretical CDS spread implied by the bond yield.
The figure plots the CDS-bond basis for investment grade orange and high-yield blue corporate bonds. In a recent paper Adrian et al. Many commentators corporate bond market liquidity the funding market pressures and purportedly reduced market liquidity to the Dodd-Frank Act and the Basel III regulatory framework. Those regulatory reforms include higher bank capital requirements, new leverage ratios, and liquidity requirements.
While these regulations are intended to corporate bond market liquidity the US and the global financial system more resilient, some market participants argue that they also hinder market making by raising the cost of capital and restricting dealer risk taking.
Such factors include voluntary changes in dealer risk management practices and balance sheet composition since the crisis, the growth of electronic trading, the evolving liquidity demands corporate bond market liquidity large asset managers and changes in expected returns associated with the economic environment.
Identifying how any one factor affects dealer balance sheets and liquidity must account for these other factors, which is especially difficult given that many are highly interrelated and driven by other developments. Turning to market liquidity, we find mixed evidence for corporate bond market liquidity Treasury market. As of lateaverage bid-ask spreads for benchmark notes in the interdealer market were narrow and stable — and comparable to pre-crisis levels, as shown in Corporate bond market liquidity 4 below.
The evolution of the price impact of trades, shown in Adrian et al csimilarly suggests a modest deterioration in liquidity since early The figure plots day moving averages of average daily bid-ask spreads for the on-the-run notes in the interdealer market. The figure plots day moving averages of average daily depth for the on-the-run notes in the interdealer market. Depth is summed across the top five levels of both sides of the order book.
In the corporate bond market, liquidity appears to have diverged depending on trade size, which is often associated with investor type. Figure 6 below thus shows that average realised bid-ask spreads which are based on transaction datahave fallen below pre-crisis levels for retail-sized trades, but remain above pre-crisis levels for institutional-sized trades.
Regardless, corporate bond trading and issuance volume have been robust, reaching record highs in The spreads are computed daily for each bond. Trade size grouping are calculated as the difference between the average volume-weighted dealer-to-client buy price and corporate bond market liquidity average volume-weighted dealer-to-client sell price, and then averaged across bonds using equal weighting.
Although liquidity under normal market conditions may not have significantly worsened, it might be that it has become more fragile, or prone to disappearing under stress see, for example, Powell To address that prospect, we consider three case studies on the resilience of market liquidity since the crisis. In all three instances, the degree of deterioration in market liquidity was within historical norms, corporate bond market liquidity that liquidity remained resilient corporate bond market liquidity during stress events.
While we do not corporate bond market liquidity clear indications of a widespread worsening of bond market liquidity, our analysis faces several limitations, including important limits to available data.
For example, our Treasury market metrics are from the interdealer market, and hence do not gauge liquidity in the dealer-to-customer market. Moreover, our corporate metrics are based on transactions data, and cannot account for the time required to trade or the liquidity of bonds that do not trade. Indeed, as discussed in Flemingregulators will soon have access to a broader set of transactions data for the US Treasury market. In addition, dealer balance sheets have changed dramatically, and some funding cost metrics, such as the CDS-bond basis, imply increased balance sheet costs, suggesting important changes in dealer behaviour.
Exploring the determinants of such behaviour and how dealer attributes affect market liquidity is a promising avenue of future work. The views expressed here are those of the authors and do not necessarily represent those of the institutions with which they are affiliated. Financial markets Corporate bond market liquidity regulation and banking Global crisis. Market liquidity after the corporate bond market liquidity crisis Tobias Adrian, Michael J.
Fleming, Or Shachar 14 September The potential adverse effects of regulation on market liquidity in the post-crisis period continue to receive significant attention. The financial crisis, ten years on. Stephen Cecchetti, Kim Schoenholtz. Resilience of market liquidity.
Luis Brandao-Marques, Gaston Gelos. Liquidity in corporate bond market liquidity financial crisis: New insights on the lender of last resort. Understanding liquidity risk and its role in the crisis. Figure 1 Dealer balance sheets stagnated after the crisis Note: Figure 2 Leverage has continued to decline Note: Less abundant funding liquidity. Figure 3 CDS-bond basis is negative after the crisis Notes: Drivers of the changes In a recent paper Adrian et corporate bond market liquidity.
Evolution of market liquidity Turning to market liquidity, we find mixed evidence for the Treasury market. Figure 4 Treasury bid-ask spreads are narrow and stable Notes: Figure 5 Treasury depth is below all-time high Notes: Figure 6 Corporate bond bid-ask spreads have diverged Notes: Liquidity case studies Although liquidity under normal market conditions may not have significantly worsened, it might be that it has become more fragile, or prone to disappearing under stress corporate bond market liquidity, for example, Powell Concluding remarks While we do not find clear indications of a widespread worsening of bond market liquidity, our analysis faces several limitations, including important limits to available data.
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