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Funding constraints and liquidity in two-tiered OTC markets

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  • Benos, Evangelos
  • Žikeš, Filip

Abstract

Using primary dealer transactional data from the government bond (gilt) market in the United Kingdom, we identify a new channel through which dealer funding constraints may impair liquidity in two-tiered OTC markets. The key finding is that funding constraints also inhibit dealers' ability to accommodate each others' trade requests in the inter-dealer segment, which limits their collective ability to manage inventories and share risk. As a result, funding constraints end up compromising liquidity above and beyond any direct effects caused by dealers' inability to accommodate client trade requests due to their individual balance sheet constraints.

Suggested Citation

  • Benos, Evangelos & Žikeš, Filip, 2018. "Funding constraints and liquidity in two-tiered OTC markets," Journal of Financial Markets, Elsevier, vol. 39(C), pages 24-43.
    • Handle: RePEc:eee:finmar:v:39:y:2018:i:c:p:24-43
    DOI: 10.1016/j.finmar.2018.01.002
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    Cited by:

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    2. Gábor Pintér & Chaojun Wang & Junyuan Zou, 2021. "Size Discount and Size Penalty Trading Costs in Bond Markets," Discussion Papers 2114, Centre for Macroeconomics (CFM).
    3. Di Gangi, Domenico & Lazarov, Vladimir & Mankodi, Aakash & Silvestri, Laura, 2022. "Links between government bond and futures markets: dealer-client relationships and price discovery in the UK," Bank of England working papers 991, Bank of England.
    4. Onofrio Panzarino, 2023. "Investor behavior under market stress:evidence from the Italian sovereign bond market," Temi di discussione (Economic working papers) 33, Bank of Italy, Economic Research and International Relations Area.
    5. Benos, Evangelos & Huang, Wenqian & Menkveld, Albert & Vasios, Michalis, 2019. "The cost of clearing fragmentation," Bank of England working papers 800, Bank of England, revised 22 Nov 2019.
    6. Aramonte, Sirio & Szerszeń, Paweł J., 2020. "Cross-market liquidity and dealer profitability: Evidence from the bond and CDS markets," Journal of Financial Markets, Elsevier, vol. 51(C).
    7. Fuhrer, Lucas Marc & Giese, Julia, 2021. "Gilt auctions and secondary market dynamics," Finance Research Letters, Elsevier, vol. 38(C).
    8. Jieun Lee, 2023. "Dollar and government bond liquidity: evidence from Korea," BIS Working Papers 1145, Bank for International Settlements.
    9. Barria, Rodrigo & Pinter, Gabor, 2023. "Mispricing in inflation markets," Bank of England working papers 1034, Bank of England.

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    More about this item

    Keywords

    Gilt market; Liquidity; Inter-dealer trading;
    All these keywords.

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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