Shadow Discounts

Abstract

Centralized trading platforms should improve competition in OTC markets. Using transaction records from the U.S. corporate bond market and exploiting variation within client-dealer relationships, we find no evidence that clients receive better secondary-market trading terms after adopting a platform. To reconcile this puzzling finding, we present a model in which relationship dealers operate in both primary and secondary markets. A central insight, for which we find strong empirical support, is that dealers respond to clients' improved outside options not by changing secondary-market terms, but by granting larger primary-market allocations. Guided by the model, we estimate that platform adoption is worth 77% of clients' pre-adoption profits from primary-market allocations. Overall, the effects of platforms in OTC markets are more complex than previously thought.

Keywords: OTC market, relationships, primary market, secondary market, platform adoption

JEL Classification: G10, G12, G22