Anatomy of a Liquidity Crisis: Corporate Bonds in the COVID-19 Crisis

62 Pages Posted: 31 May 2020 Last revised: 30 Sep 2020

See all articles by Maureen O'Hara

Maureen O'Hara

Cornell University - Samuel Curtis Johnson Graduate School of Management

Xing (Alex) Zhou

Board of Governors of the Federal Reserve System

Date Written: May 31, 2020

Abstract

We examine the microstructure of liquidity provision in the COVID-19 corporate bond liquidity crisis. During the two weeks leading to Fed interventions, transaction costs soared, trade-size pricing inverted, and dealers, in particular non-primary dealers, shifted from buying to selling, causing dealers’ inventories to plummet. Liquidity provisions in electronic customer-to-customer trading increased, though at prohibitively high costs. By improving dealer funding conditions and providing a liquidity backstop, the Primary Dealer Credit Facility (PDCF) and the Secondary Market Corporate Credit Facility (SMCCF) calmed dealers and stabilized trading conditions. Most of the impact of SMCCF on bond liquidity seems to have materialized following its announcement. We argue that the Federal Reserve’s actions reflect a new role as market maker of last resort.

Keywords: Corporate bonds, liquidity crisis, COVID-19, PDCF, SMCCF, electronic trading, customer-to-customer, market maker of last resort.

JEL Classification: G14, G21, G23, G24

Suggested Citation

O'Hara, Maureen and Zhou, Xing (Alex), Anatomy of a Liquidity Crisis: Corporate Bonds in the COVID-19 Crisis (May 31, 2020). Journal of Financial Economics (JFE), Forthcoming, Available at SSRN: https://ssrn.com/abstract=3615155 or http://dx.doi.org/10.2139/ssrn.3615155

Maureen O'Hara

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Ithaca, NY 14853
United States
607-255-3645 (Phone)
607-255-5993 (Fax)

Xing (Alex) Zhou (Contact Author)

Board of Governors of the Federal Reserve System ( email )

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

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