Risk Management with Derivatives by Dealers and Market Quality in Government Bond Markets

Posted: 6 Oct 2003

See all articles by Narayan Y. Naik

Narayan Y. Naik

London Business School - Institute of Finance and Accounting

Pradeep K. Yadav

University of Oklahoma Price College of Business

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Abstract

This paper investigates how bond dealers manage core business risk with interest rate futures and the extent to which market quality is affected by their selective risk taking. We observe that dealers use futures to take directional bets and hedge changes in their spot exposure. We find that, cross-sectionally, a dealer with longer (shorter) risk exposure sells (buys) a larger amount of exposure the next day. However, this risk control takes place via the futures market and not the spot market. Finally, we find strong support for the price effects of capital constraints.

Suggested Citation

Naik, Narayan Y. and Yadav, Pradeep K., Risk Management with Derivatives by Dealers and Market Quality in Government Bond Markets. Journal of Finance, Vol. 58, pp. 1873-1904, October 2003. Available at SSRN: https://ssrn.com/abstract=447364

Narayan Y. Naik (Contact Author)

London Business School - Institute of Finance and Accounting ( email )

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Pradeep K. Yadav

University of Oklahoma Price College of Business ( email )

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HOME PAGE: http://www.ou.edu/price/finance/faculty/pradeep_yadav.html

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