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Flight-to-Quality or Flight-to-Liquidity? Evidence From the Euro-Area Bond Market

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  • Alessandro Beber
  • Michael W. Brandt
  • Kenneth A. Kavajecz

Abstract

Do bond investors demand credit quality or liquidity? The answer is both, but at different times and for different reasons. Using data on the Euro-area government bond market, which features a unique negative correlation between credit quality and liquidity across countries, we show that the bulk of sovereign yield spreads is explained by differences in credit quality, though liquidity plays a non-trivial role especially for low credit risk countries and during times of heightened market uncertainty. In contrast, the destination of large flows into the bond market is determined almost exclusively by liquidity. We conclude that credit quality matters for bond valuation but that, in times of market stress, investors chase liquidity, not credit quality.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 12376.

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Date of creation: Jul 2006
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Publication status: published as Alessandro Beber & Michael W. Brandt & Kenneth A. Kavajecz, 2009. "Flight-to-Quality or Flight-to-Liquidity? Evidence from the Euro-Area Bond Market," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 22(3), pages 925-957, March.
Handle: RePEc:nbr:nberwo:12376
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Find related papers by JEL classification:
  • G0 - Financial Economics - - General
  • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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  1. Dimitri Vayanos, 2004. "Flight to quality, flight to liquidity, and the pricing of risk," LSE Research Online Documents on Economics 456, London School of Economics and Political Science, LSE Library.
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  19. repec:spr:pharme:v:22:y:2004:i:4:p:225-244 is not listed on IDEAS
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  1. Core versus périphérie : pourquoi les taux souverains sont-ils négativement corrélés ?
    by contact@captaineconomics.fr (Le Captain') in Captain Economics on 2012-11-23 06:00:02
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