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Realized Volatility, Liquidity, and Corporate Yield Spreads

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  • Marco Rossi

    (Department of Finance, Mays Business School, Texas A&M University, USA)

Abstract

I propose a friction measure of bond round-trip liquidity costs that is robust to outliers and accounts for the idiosyncratic information behind trading decisions. Particularly effective with investment-grade bonds, the proposed measure displays properties consistent with the credit risk puzzle. Using transactions from January 2004 to December 2011, I find that liquidity costs display a strong correlation with credit conditions and peaked during the sub-prime crisis. After controlling for equity volatility with high-frequency measures, liquidity costs explain a substantial fraction of the variation in the yield spreads of highly rated bonds, but become less important for speculative-grade bonds.

Suggested Citation

  • Marco Rossi, 2014. "Realized Volatility, Liquidity, and Corporate Yield Spreads," Quarterly Journal of Finance (QJF), World Scientific Publishing Co. Pte. Ltd., vol. 4(01), pages 1-42.
    • Handle: RePEc:wsi:qjfxxx:v:04:y:2014:i:01:n:s2010139214500049
    DOI: 10.1142/S2010139214500049
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    References listed on IDEAS

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    1. Patrick Houweling & Albert Mentink & Ton Vorst, 2003. "How to measure Corporate Bond Liquidity?," Tinbergen Institute Discussion Papers 03-030/2, Tinbergen Institute.
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    Cited by:

    1. Bodnaruk, Andriy & Rossi, Marco, 2016. "Dual ownership, returns, and voting in mergers," Journal of Financial Economics, Elsevier, vol. 120(1), pages 58-80.
    2. Han-Hsing Lee, 2020. "Distress risk, product market competition, and corporate bond yield spreads," Review of Quantitative Finance and Accounting, Springer, vol. 55(3), pages 1093-1135, October.
    3. Xuanjuan Chen & Jing-Zhi Huang & Zhenzhen Sun & Tong Yao & Tong Yu, 2020. "Liquidity Premium in the Eye of the Beholder: An Analysis of the Clientele Effect in the Corporate Bond Market," Management Science, INFORMS, vol. 66(2), pages 932-957, February.
    4. Shi, Zhan, 2019. "Time-varying ambiguity, credit spreads, and the levered equity premium," Journal of Financial Economics, Elsevier, vol. 134(3), pages 617-646.
    5. Kim, Jong-Min & Kim, Dong H. & Jung, Hojin, 2021. "Estimating yield spreads volatility using GARCH-type models," The North American Journal of Economics and Finance, Elsevier, vol. 57(C).
    6. Stephanie Heck, 2022. "Corporate bond yields and returns: a survey," Financial Markets and Portfolio Management, Springer;Swiss Society for Financial Market Research, vol. 36(2), pages 179-201, June.
    7. Allaudeen Hameed & Jean Helwege & Ran Li & Frank Packer, 2019. "Measuring corporate bond liquidity in emerging market economies: price- vs quantity-based measures," BIS Papers chapters, in: Bank for International Settlements (ed.), Asia-Pacific fixed income markets: evolving structure, participation and pricing, volume 102, pages 45-62, Bank for International Settlements.
    8. Song Han & Hao Zhou, 2016. "Effects of Liquidity on the Non-Default Component of Corporate Yield Spreads: Evidence from Intraday Transactions Data," Quarterly Journal of Finance (QJF), World Scientific Publishing Co. Pte. Ltd., vol. 6(03), pages 1-49, September.
    9. Goldstein, Michael A. & Namin, Elmira Shekari, 2023. "Corporate bond liquidity and yield spreads: A review," Research in International Business and Finance, Elsevier, vol. 65(C).
    10. Jannic Cutura & Gianpaolo Parise & Andreas Schrimpf, 2020. "Debt De-risking," BIS Working Papers 868, Bank for International Settlements.
    11. Jing-Zhi Huang & Bibo Liu & Zhan Shi, 2023. "Determinants of Short-Term Corporate Yield Spreads: Evidence from the Commercial Paper Market," Review of Finance, European Finance Association, vol. 27(2), pages 539-579.
    12. Andriy Bodnaruk & Marco Rossi, 2021. "Shareholders as Creditors of First Resort," Management Science, INFORMS, vol. 67(3), pages 1737-1757, March.
    13. Nieto, Belén, 2018. "Bid–ask spread estimator from high and low daily prices: Practical implementation for corporate bonds," Journal of Empirical Finance, Elsevier, vol. 48(C), pages 36-57.
    14. Angeloantonio Russo & Massimo Mariani & Alessandra Caragnano, 2021. "Exploring the determinants of green bond issuance: Going beyond the long‐lasting debate on performance consequences," Business Strategy and the Environment, Wiley Blackwell, vol. 30(1), pages 38-59, January.
    15. Kim, Jong-Min & Kim, Dong H. & Jung, Hojin, 2020. "Modeling non-normal corporate bond yield spreads by copula," The North American Journal of Economics and Finance, Elsevier, vol. 53(C).
    16. Dora Xia & Omar Zulaica, 2022. "The term structure of carbon premia," BIS Working Papers 1045, Bank for International Settlements.

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