Does Expected Bond Liquidity Affect Financial Contracts
67 Pages Posted: 6 Dec 2016 Last revised: 7 Dec 2016
Date Written: December 1, 2016
This paper shows that bond market liquidity plays an important role in determining corporate debt contracts. We find that bonds with better expected market liquidity are issued with fewer restrictive covenants, longer maturities, and lower offering yield spreads. These results are robust to a quasi-natural experiment using the implementation of TRACE as an exogenous shock to bond market liquidity, and an instrumental variable regression controlling for the endogeneity of bond liquidity. Further investigation shows that the effect of liquidity is more pronounced in firms subject to more credit supply frictions, firms with poorer credit ratings and more rollover risk, and firms relying more on debt financing.
Keywords: bond liquidity, debt covenants, debt maturity, cost of debt
JEL Classification: G32, G14, G18
Suggested Citation: Suggested Citation