Intermediary Leverage Shocks and Funding Conditions
87 Pages Posted: 11 Aug 2020 Last revised: 16 May 2023
Date Written: July 11, 2020
Abstract
The aggregate leverage of broker-dealers responds to demand and supply disturbances that have opposite effects on financial markets. Leverage supply shocks that relax broker-dealers’ funding constraints raise leverage, improve liquidity, increase returns and carry a positive price of risk. Leverage demand shocks also raise leverage but worsen liquidity, reduce returns and carry a negative price of risk. Therefore, disentangling demand- and supply-like shocks resolves existing puzzles around the price of leverage risk and yields consistent evidence across many markets of a central role for intermediation frictions and dealers’ aggregate leverage in asset pricing.
Keywords: Broker-dealers, Leverage, Asset pricing
JEL Classification: E43, H42
Suggested Citation: Suggested Citation