Funding Liquidity and Market Liquidity: The Broker-Dealer Perspective

47 Pages Posted: 10 Jan 2019 Last revised: 7 Nov 2019

See all articles by Marco Macchiavelli

Marco Macchiavelli

Board of Governors of the Federal Reserve System

Xing (Alex) Zhou

Board of Governors of the Federal Reserve System

Date Written: July 16, 2019

Abstract

We provide the first direct analysis of how dealers' funding liquidity affects their liquidity provision in securities markets. Dealers' repo trading terms, including both haircuts and repo spreads, and their ability to finance their bond inventories through repos affect their bid-ask spreads and transaction costs in corporate bonds. Using dealers' exposure to the SEC 2016 money market fund reform as an instrument, we show that funding liquidity indeed has a causal effect on market liquidity. Dealers with lower funding liquidity tend to have smaller market shares and they execute more trades on an agency basis.

Keywords: funding liquidity, market liquidity, repos, broker-dealers, corporate bonds

JEL Classification: G12, G23, G24

Suggested Citation

Macchiavelli, Marco and Zhou, Xing (Alex), Funding Liquidity and Market Liquidity: The Broker-Dealer Perspective (July 16, 2019). Available at SSRN: https://ssrn.com/abstract=3311786 or http://dx.doi.org/10.2139/ssrn.3311786

Marco Macchiavelli (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Xing (Alex) Zhou

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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