Inventory Management, Dealers' Connections, and Prices in OTC Markets

64 Pages Posted: 10 Jul 2018 Last revised: 28 Oct 2020

See all articles by Jean-Edouard Colliard

Jean-Edouard Colliard

HEC Paris - Finance Department

Thierry Foucault

HEC Paris - Finance Department

Peter Hoffmann

European Central Bank (ECB)

Multiple version iconThere are 2 versions of this paper

Date Written: October 27, 2020

Abstract

We propose a new model of trading in OTC markets. Dealers accumulate inventories by trading with end-investors and trade among each other to reduce their inventory holding costs. Core dealers use a more efficient trading technology than peripheral dealers, who are heterogeneously connected to core dealers and trade with each other bilaterally. Connectedness affects prices and allocations if and only if the peripheral dealers' aggregate inventory position differs from zero. Price dispersion increases in the size of this position. The model generates new predictions about the effects of dealers' connectedness and dealers' aggregate inventories on prices.

Keywords: OTC markets, Interdealer trading, Inventory management

Suggested Citation

Colliard, Jean-Edouard and Foucault, Thierry and Hoffmann, Peter, Inventory Management, Dealers' Connections, and Prices in OTC Markets (October 27, 2020). Journal of Finance, Forthcoming, HEC Paris Research Paper No. FIN-2018-1286, Available at SSRN: https://ssrn.com/abstract=3211285 or http://dx.doi.org/10.2139/ssrn.3211285

Jean-Edouard Colliard (Contact Author)

HEC Paris - Finance Department ( email )

France

Thierry Foucault

HEC Paris - Finance Department ( email )

1 rue de la Liberation
Jouy-en-Josas Cedex, 78351
France
(33)139679569 (Phone)
(33)139677085 (Fax)

HOME PAGE: http://thierryfoucault.com/

Peter Hoffmann

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

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