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An Asset Pricing Approach to Liquidity Effects in Corporate Bond Markets

Author

Listed:
  • Dion Bongaerts
  • Frank de Jong
  • Joost Driessen

Abstract

We use an asset pricing approach to compare the effects of the liquidity level and liquidity risk on expected U.S. corporate bond returns. Using signed transaction data, we estimate effective transaction costs for bond portfolios by a repeat-sales method. We find that the liquidity level and exposure to equity market liquidity risk affect expected bond returns. In contrast, exposure to corporate bond liquidity shocks carries an economically negligible risk premium. A simulation study shows that it is unlikely that our results are driven by measurement error in betas or multicollinearity. We present a simple theoretical model that explains these findings.

Suggested Citation

  • Dion Bongaerts & Frank de Jong & Joost Driessen, 2017. "An Asset Pricing Approach to Liquidity Effects in Corporate Bond Markets," The Review of Financial Studies, Society for Financial Studies, vol. 30(4), pages 1229-1269.
    • Handle: RePEc:oup:rfinst:v:30:y:2017:i:4:p:1229-1269.
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    File URL: http://hdl.handle.net/10.1093/rfs/hhx005
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    More about this item

    JEL classification:

    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

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