Liquidity effects in corporate bond spreads

Jean Helwege, Jing Zhi Huang, Yuan Wang

Research output: Contribution to journalArticlepeer-review

37 Scopus citations

Abstract

Corporate bond spreads are affected by both credit risk and liquidity and it is difficult to disentangle the two factors empirically. In this paper we separate out the credit risk component by examining bonds that are issued by the same firm and that trade on the same day, allowing us to examine the effects of liquidity in a sample of bond pairs. We examine standard liquidity measures to determine how well they explain the differences in the two bonds' yield spreads and find that the proxies do a poor job of measuring liquidity effects. Incorporating liquidity proxies related to other bonds issued by the firm and those for bonds of other firms can significantly improve the explanatory power. Still, a significant portion of the spread is left unexplained and it is largely driven by a common unknown factor. We conclude that good proxies for the liquidity component of corporate bond spreads remain elusive.

Original languageEnglish (US)
Pages (from-to)105-116
Number of pages12
JournalJournal of Banking and Finance
Volume45
Issue number1
DOIs
StatePublished - Aug 2014

All Science Journal Classification (ASJC) codes

  • Finance
  • Economics and Econometrics

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