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Market Liquidity Surveys is a joint venture between Chris Golden and David Clark. 


They have carried out a pilot survey of dealers enquiring into the factors that impact liquidity of fixed income instruments.  Presentations of the report have been made at the European Central Bank, the Central Bank of Luxembourg and the Centre for the Study of Financial Innovation in London (see Tony Jackson in the FT).


A larger scale follow up survey will be undertaken in June/July 2009. 


The following is a summary of the report on the pilot survey:


"Shorting stock and hedging with CDS are considered paramount for liquidity by market participants, but these are the two areas which have drawn great public and regulatory criticism. The contrast between their importance in market practice and their negative image elsewhere also highlights how crucial it is to better educate those outside the markets as to how these instruments work, and why they are vital for markets to function optimally. Simultaneously they highlight the nature of the fixed income markets where liquidity is provided by dealers willing to hold hedged positions.

The idea for the study sprang from the immense focus on the liquidity of bonds following the onset of the financial crisis; a focus which emphasised just how little the concept of liquidity is understood in practice.  Econometric studies have their place but they also have many limits: yet market liquidity is dominated by a very small number of liquidity providers, so why not ask them for their opinions?  Furthermore, users of liquidity such as bank treasurers and dealers in investment firms are likely to have a good perspective on the issues, and probably have some influence on the behaviour of market makers. 

The authors compiled a list of 47 factors which may influence the relative liquidity of bonds and divided these into six categories: static data; market environment; valuation and transparency; market infrastructure; funding; and issuer behaviour.  Within each factor subsidiary questions were included to define dealer preferences more closely.  Thus, within the “Static Data” category dealers were asked to rate the importance of the “Issue Size” factor with a score from 0-10 and then to rate specific size ranges with a score of +5 to -5.  In order to calibrate the results, questions on current and expected liquidity conditions were included, as well as on dealers’ views on some liquidity proxies such as volatility.  Data was obtained from fourteen dealers in face to face interviews in three European centres.  After excluding statistical outliers the remaining 12 results were collated and average scores calculated for buy-side (three dealers), sell-side (nine dealers) and overall.  The small sample means that results are not statistically robust; but since factors that contribute to liquidity are likely to change in time and different market conditions, the intention was that this first study should act as a pilot for further, regular and more extensive studies.  

Though small, this pilot study uncovered many interesting results, some of which have important implications for policy makers and for investor behaviour: we have already mentioned two above.

Other important results include the distinction between public and privately issued bonds (which was rated at the top of the 47 factors); and investor diversity. Though the latter only ranked 18 in the list of factors, the answers to subsidiary questions were particularly telling since a predominantly retail investor base was considered a negative factor.  Regulatory attempts to protect retail investors may unwittingly therefore steer them towards primarily retail issues and hence to relatively illiquid paper:  retail investors rarely lend or trade stock, and market makers going short a retail issue may find it harder to cover their position. And while pre-trade transparency was considered 10th overall, post-trade transparency came in 40th place which would hardly justify the regulatory focus on post-trade transparency.

Investor attitudes brought out some interesting results.  Although the buy side sample rated “Issuer behaviour” highly as a category, the specific factor “Willingness to reward market makers with new issue mandates” ranked only 35th amongst buy-side dealers.  Was this a case of investors giving lip service to a type of behaviour while failing to reward specific types of behaviour or a general lack of confidence in market making during a time of crisis?" 

For further information, please contact one of them by clicking on their name

David Clark                             Chris Golden