Liquidity in U.S. Fixed Income Markets: A Comparison of the Bid-Ask Spread in Corporate, Government and Municipal Bond Markets

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Staff Reports

Liquidity in U.S. Fixed Income Markets: A Comparison of the Bid-Ask Spread in Corporate, Government and Municipal Bond Markets

March 1999 Number 73

JEL classification: G14

Authors: Sugato Chakravarty and Asani Sarkar

We examine the determinants of the realized bid-ask spread in the U.S. corporate, municipal and government bond markets for the years 1995 to 1997, based on newly available transactions data. Overall, we find that liquidity is an important determinant of the realized bid-ask spread in all three markets. Specifically, in all markets, the realized bid-ask spread decreases in the trading volume. Additionally, risk factors are important in the corporate and municipal markets. In these markets, the bid-ask spread increases in the remaining-time-to maturity of a bond. The corporate bond spread also increases in credit risk and the age of a bond. The municipal bond spread increases in the after-tax bond yield. Controlling for others factors, the municipal bond spread is higher than the government bond spread by about 9 cents per $100 par value, but the corporate bond spread is not. Consistent with improved pricing transparency, the bid-ask spread in the corporate and municipal bond markets is lower in 1997 by about 7 to 11 cents per $100 par value, relative to the earlier years. Finally, the ten largest corporate bond dealers earn 15 cents per $100 par value higher than the remaining dealers, after controlling for differences in the characteristics of bonds traded by each group. We find no such differences for the government and municipal bond dealers.

Available only in PDF PDF

43 pages / 192 kb

For a published version of this report, see Sugato Chakravarty and Asani Sarkar, "Trading Costs in Three U.S. Bond Markets," Journal of Fixed Income 13, no. 1 (June 2003): 39-48.

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