Post-Crisis Regulations, Trading Delays, and Increasing Corporate Bond Liquidity Premium

Abstract

I examine corporate bond market liquidity from 2004 to 2019 through the lens of the liquidity premium. I document that while commonly-used transaction cost measures such as the bid-ask spread remain flat, the corporate bond liquidity premium has actually increased since the financial crisis. I argue that as post-crisis regulations such as Basel II.5 have reduced dealer’s provision of immediacy, investors now experience much longer trading delays, and so require a higher liquidity premium than before the crisis. Using a structural over-the-counter model, I estimate the unobserved trading delays implied by the size of the liquidity premium. I show bonds that used to be sold within one day now take weeks to trade.

Keywords: Corporate Bond, Liquidity Premium, Trading Delays, Basel II.5

JEL Classification: G10, G12, G18, G20