Evolution in the Corporate Bond Market: How Liquidity Relates to Yield Spread And Why Electronic Trading Matters

Abstract

I explore the relationship between the nondefault component of corporate bonds’ yield spread and a variety of liquidity measurements for bonds traded in both an OTC and electronic environment. Over a period of five years, this study utilizes a variety of bond characteristics and intraday trading data from a subsection of the investment grade corporate bond market issued by financial institutions. I find that there exists a significant and positive relationship between the illiquidity of a bond and its particular yield spread. I notice a significant difference in liquidity for bonds traded electronically. I also conclude that electronically traded bonds house less of this illiquidity risk in their yield dispersion.