How to soften the bond liquidity crunch

  • To understand why liquidity is important in bonds.
  • To learn how to help maintain liquidity.
  • To understand what has squeezed liquidity.
  • To understand why liquidity is important in bonds.
  • To learn how to help maintain liquidity.
  • To understand what has squeezed liquidity.
Supported by
AXA Investment Managers
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CPD
Approx.30min
pfs-logo
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CPD
Approx.30min
Supported by
AXA Investment Managers
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Supported by
AXA Investment Managers
pfs-logo
cisi-logo
CPD
Approx.30min
How to soften the bond liquidity crunch

In other studies, a clear relationship between risk and liquidity should help to clear the smog. In September 2016, the CFA institute published its ‘Secondary Corporate Bond Market Liquidity Survey’, in order to shine a light on the situation with regards to global bonds.

Importantly, the trade body noted, the respondents observed decreasing liquidity of high-yielding and investment grade corporate bonds but no change to their government counterparts.

It also found that a key determinant change in bond market liquidity could focus on the number of market dealers and the scale and frequency of market dealing activity.

Tellingly, the survey respondents witnessed a dramatic change in this area, with 55 per cent seeing a ‘Moderate decrease and significant decrease’ in the number of corporate bond dealers. In stark contrast, only 19 per cent observed a ‘moderate increase and significant increase’ in this area.

Trends to note

With regards to the potential impact on specific types of bond a clear pattern emerges. 

In support of the CFA Institute’s conclusion that corporate debt has been more heavily affected, 61 per cent highlighted decreased market liquidity in high yield corporate bonds - financial, and only 26 per cent witnessed the same trend in government bonds. 

“Government bonds will almost always be more liquid than corporate bonds, simply due to their perceived safety as government backed instruments which links to their consistent, high demand,” says Mr Stone.

He goes further: “The market for government debt is also far simpler and more homogenous than that for corporate debt, where companies can have dozens of fixed income line entries, each of which bear little resemblance to each other.

"While global central bank quantitative easing programmes have targeted corporate bond markets selectively, their focus has been very heavily on government bonds, providing the market with a permanent buyer to date."

Although government bonds provide the greatest liquidity, it can also be found elsewhere, according to Mr Trindade: “Bonds with high credit ratings, such as those issued by supranational agencies and large corporates, tend to be very liquid.”

This subsequently poses a serious question for investors. Despite the recent US fed rate hikes, global central bank interest rates have been floundering at record lows, and as the Bank of England showed last year, some continue to fall.

In even more extreme circumstances, Germany and Switzerland’s central banks both issued negative yielding debt last year as European bond rates reached dire straits.

High yields or liquidity?

Therefore, in order to secure greater levels of liquidity, investors would need to weigh the importance of either potentially higher yields or a more easily tradeable asset.  

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