Dealer Inventory and the Cross-Section of Corporate Bond Returns

44 Pages Posted: 19 Nov 2014 Last revised: 13 Aug 2016

See all articles by Nils Friewald

Nils Friewald

Norwegian School of Economics (NHH); Centre for Economic Policy Research (CEPR)

Florian Nagler

Bocconi University

Date Written: August 12, 2016

Abstract

Inventory models of dealership markets imply that intermediaries reduce their exposure to inventory risk by offering prices different from fundamental values. Therefore, inventory levels should affect asset prices and thus returns. We explore the cross-sectional relation between US corporate bond inventories and returns. Our findings provide strong support for the asset pricing implication of inventory models, that is, the risk-adjusted return of a high-minus-low inventory-sorted portfolio is 21 basis points per week. Furthermore, we examine several drivers of the inventory risk premium; for example, we emphasize the importance of inventory risk sharing in pricing bonds.

Keywords: US corporate bond market, OTC market, dealer inventory, cross-sectional asset pricing, risk sharing

JEL Classification: G10, G12, G20

Suggested Citation

Friewald, Nils and Nagler, Florian, Dealer Inventory and the Cross-Section of Corporate Bond Returns (August 12, 2016). Available at SSRN: https://ssrn.com/abstract=2526291 or http://dx.doi.org/10.2139/ssrn.2526291

Nils Friewald

Norwegian School of Economics (NHH) ( email )

Helleveien 30
Bergen, NO-5045
Norway

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Florian Nagler (Contact Author)

Bocconi University ( email )

Via Roentgen 1
Milan, MI 20136
Italy

HOME PAGE: http://sites.google.com/site/floriannagler/

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