Quantifying and Explaining the New Issue Premium in the Post Glass-Steagall Corporate Bond Market

Posted: 23 Oct 2012 Last revised: 28 Jun 2014

Robert S. Goldberg

Adelphi University

Ehud I. Ronn

University of Texas at Austin - Department of Finance

Date Written: October 23, 2012

Abstract

In this paper, we document and rationalize the premium paid by bond issuers in the corporate bond markets. Changes in the bond market over the past thirty years have shifted the new issue pricing risk from investors to banks and back to investors, with large institutional investors acting as a de facto adjunct underwriting group, and this process has required both capital commitment as well as a commitment to taking on unsystematic risk for which investors require compensation. In this paper, we use the superior data prevalent in trades under the TRACE system to compute the New-Issue Premium (NIP) as well as relating the magnitude of that premium to predetermined economic variables: The level of the corporate-bond spread; the future volatility of swap spreads; the prevailing value of unsystematic risk in the bond markets; the spread of the issuer to Treasury market at time of issuance; and the tenor of the new bond issue. We then present a model for the required NIP based on compensation for information uncertainty and the bearing of unsystematic risk. In so doing, we also address the issues of oligopolistic pricing and wealth transfer that occur at time of issuance.

Keywords: corporate bond issuance

JEL Classification: G12, G32

Suggested Citation

Goldberg, Robert S. and Ronn, Ehud I., Quantifying and Explaining the New Issue Premium in the Post Glass-Steagall Corporate Bond Market (October 23, 2012). Available at SSRN: https://ssrn.com/abstract=2165985 or http://dx.doi.org/10.2139/ssrn.2165985

Robert S. Goldberg

Adelphi University ( email )

School of Business
Garden City, NY 11530
United States

Ehud I. Ronn (Contact Author)

University of Texas at Austin - Department of Finance ( email )

Graduate School of Business
Austin, TX 78712
United States
512-471-5853 (Phone)
512-471-5073 (Fax)

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