How Did Order-Flow Impact Bond Prices During the European Sovereign Debt Crisis?

Lin, Zhongguo and Hamill, Philip A. and Li, Youwei and Sun, Zhuowei and Waterworth, James (2019): How Did Order-Flow Impact Bond Prices During the European Sovereign Debt Crisis? Forthcoming in:

Abstract

The impact of trades on price dynamics in the European sovereign debt markets is of significant importance to policy makers and market participants. This paper uses high-frequency quote and transaction data from the MTS European sovereign bond inter-dealer platform to investigate price-order-flow dynamics from July 2005 until December 2011 for Germany, France, Portugal, Italy, Ireland, Spain and Greece. We find that order-flow had a larger impact on quote revision in a relatively low-intensity trading environment than in a relatively high-intensity trading environment implying that informed traders should only execute in low-intensity trading environments when they value immediacy over discretion. This analysis is consistent with the limited prior literature for European debt markets. Our analysis indicates that this relationship persists during turbulent market conditions. Also, we find that the impact of order-flow on subsequent trades was larger during periods of high-trading intensity implying that market participants use order splitting trading strategies.

• Item Type: MPRA Paper
• Language: English
• Keywords: Order-flow; Price impact; Trading intensity; Sovereign Bonds
• Subjects: G - Financial Economics > G0 - General > G01 - Financial Crises; G - Financial Economics > G2 - Financial Institutions and Services > G23 - Non-bank Financial Institutions ; Financial Instruments ; Institutional Investors; G - Financial Economics > G2 - Financial Institutions and Services > G24 - Investment Banking ; Venture Capital ; Brokerage ; Ratings and Ratings Agencies

References

Aitken, M. J., Cook, R.M., deB. Harris, F. H., and McInish, T.H., 2006. Market design and execution cost for matched securities across seven tier-one markets. Mimeo.

Andersen, T.G., Bollerslev, T., Diebold, F.X., and Labys, P., 2003. Modelling and forecasting realized volatility. Econometrica 71, 579–625.

Antonakakis, N., and Vergos, K., 2013. Sovereign bond yield spillovers in the euro zone during the financial and debt crisis. Journal of International Financial Markets, Institutions and Money 26, 258-272.

Bagehot, W., 1971. The only game in town. Financial Analysts’ Journal 27, 12-14, 22.

Bai, J., Julliard, C. and Yuan, K., 2012. Eurozone sovereign bond crisis: liquidity or fundamental contagion. Working Paper.

Barrios, S., Iversen, P., Lewandowska, M., and Setzer, R., 2009. Determinants of intra-euro area government bond spreads during the financial crisis. European Commission Economic Papers (388).

Beetsma, R., Giuliodori, M., de Jong, F., and Widijanto, D., 2012. Spread the news: how the crisis affected the impact of news on the European sovereign bond markets. CERP Discussion Paper (9043).

Beetsma, R., Giuliodori, M., de Jong, F., and Widijanto, D., 2013. Price effects of sovereign debt auctions in the eurozone: the role of the crisis. Working Paper.

Bernado, A., and Welch, I., 2003. Liquidity and financial market runs. Quarterly Journal of Economics 119(1), 135-158.

BIS, 2008. Bank for International Settlements, Quarterly Review, International Banking and Financial Market Development, Statistical Annex.

Boehmer, E., 2004. Dimentions of execution quality: recent evidence for US equity markets. Working Paper.

Booth, G.G., Iversen, P., Sakar, S.K., Schmidt, H., and Young, A., 1999. Market structure and bid-ask spreads: IBIS vs NASDAQ. European Journal of Finance 5, 51- 71.

Brunnermeier, M., and Pedersen, L., 2009. Market liquidity and funding liquidity. Review of Financial Studies 22(6), 2201-2238.

Buti, M., and Larch, M., 2010. Stronger EU economic governance: a response to the critics. VOX EU CEPR’s Policy Portal.

Chakravarty, S., and Sarkar, A., 1999. Liquidity in US fixed income markets: a comparison of the bid-ask spread in corporate, government and municipal bond markets. Federal Reserve Bank of New York.

Cheung, Y., de Jong, F., and Rindi, B., 2005. Trading European sovereign bonds: the microstructure of the MTS trading platforms. Working Paper Series 0432, European Central Bank.

Choi, J. H., Larsen, k., and Seppi, D. J., 2019. Information and trading targets in a dynamic market equilibrium. Journal of Financial Economics, 132(3), 22-49.

Chung, D., and Hrazdil, K., 2010. Liquidity and market efficiency: a large sample study. Journal of Banking and Finance 34(10), 2346-2357.

Cohen, B., and Shin, H.S., 2003. Positive feedback trading under stress: evidence from the US treasury securities market. Working Paper, LSE.

Copeland, T., and Galai, D., 1983. Information effects and the bid-ask spread. Journal of Finance 45, 379-396.

Darbha, M., and Dufour, A., 2013. Measuring euro area government bond market liquidity and its asset pricing implications. Working Paper.

De Santis, R.A., 2012. The euro area sovereign debt crisis: safe haven, credit rating agencies and the spread of the fever from Greece, Ireland and Portugal. ECB Working Paper (1419).

Degryse, H., 1997. The total cost of trading Belgian shares: Brussels versus London. CEPR Discussion Paper 1581.

Degryse, H., de Jong, F., and Kervel, V., 2011. Equity market fragmentation and liquidity: the impact of MiFID. Working Paper.

Diamond, D., and Verecchia, R., 1987. Constraints on short selling and asset price adjustment to private information. Journal of Financial Economics 18, 277-311.

Dufour, A., and Engle, R.F., 2000. Time and the price impact of a trade. Journal of Finance 55(6), 2467-2498.

Dufour, A., and Nguyen, M., 2011. Permanent trading impacts and bond yields. The European Journal of Finance, 1-24.

Dunne, P.G., Li, Y., and Sun, Z., 2011. Price discovery in the dual-platform U.S. treasury market. SSRN Working Paper (1737830).

Dunne, P.G., Moore, M.J., and Portes, R., 2006. European government bond markets: transparency, liquidity, efficiency. CEPR and Corporation of London.

Dunne, P.G., Moore, M.J., and Portes, R., 2007. Benchmark status in fixed-income asset markets. Journal of Business Finance and Accounting 34, 1615-1634.

Easley, D., and O’Hara, M., 1987. Price, trade size and information in securities markets. Journal of Financial Economics 19, 69-90.

Easley, D., and O’Hara, M., 1992. Time and the process of security price adjustment. Journal of Finance 47, 577-605.

Fama, E.F., and French, K.R., 1993. Common risk factors in the returns on stocks and bonds. Journal of Financial Economics, 33:3.

Fernando, C., Herring, R., and Subrahmanyam, A., 2008. Common liquidity shocks and market collapse: lessons from the market for perps. Journal of Banking and Finance 32, 1625-1635.

Fleming, M., 2001. Measuring Treasury market liquidity. Federal Reserve Bank of New York, Staff Report (133).

Fontana, A., and Scheicher, M., 2010. An analysis of euro area sovereign CDS and their relation with government bonds, ECB Working Paper Series, No. 1271.

Garleanu, N.B., and Pedersen, L.H., 2011. Margin-based asset pricing and deviations from the law of one price. Review of Financial Studies 24(6), 1980-2022.

Gibson, R., and Mougeot, N., 2004. The price of systematic liquidity risk: empirical evidence from the US stock market. Journal of Banking and Finance 28, 157-178.

Glosten, L., and Milgrom, P., 1985. Bid, ask and transaction prices in a specialist market with heterogeneously informed traders. Journal of Financial Economics 13, 71-100.

Hameed, A., Kang, W., and Viswanathan, S., 2010. Stock market declines and liquidity. Journal of Finance 65(1), 257-293.

Hsieh, T-H., Li. Y., McKillop, D. G. and Wu. Y., 2018. Liquidity Skewness in the London Stock Exchange, International Review of Financial Analysis, 56, 12-18.

Jones, C., 2002. A century of stock market liquidity and trading costs. Working paper, Columbia University. Kyle, A., 1985. Continuous auction and insider trading. Econometrica 53, 1315-1336.

Kyle, P. and Xiong, W., 2001, Contagion as a wealth effect, Journal of Finance 56(4), 1401-1440.

Li, H., Wang, J., Wu, C., and He, Y., 2009. Are liquidity and information risks priced into the Treasury bond market? Journal of Finance 64(1), 467-503.

O’Hara, M., 1997. Market microstructure theory. Blackwell Publishing.

O’Hara, M., 2015. High frequency market microstructure. Journal of Financial Economics. 116(2), 257-270.

Pelizzon, L., Subrahmanyam, M. G., Tomio, D., and Uno, J., 2016. Sovereign Credit Risk, Liquidity, and ECB Intervention: Deux ex Machina?, Journal of Financial Economics, Vol. 122 (1), pp. 86-115.

Petrella, Giovanni and Resti, Andrea, An Empirical Analysis of Eurozone Government Bonds Liquidity: Determinants, Predictability and Implications for the New Bank Prudential Rules (December 18, 2016). BAFFI CAREFIN Centre Research Paper No. 2016-45. Available: SSRN: https://ssrn.com/abstract=2888396

Roll, R., and Subrahmanyam, A., 2010. Liquidity skewness. Journal of Banking and Finance 34, 2562-2571.

Swan, P.L., and Westerholm, J., 2004. Transparency generally beats opacity: how transparency choice impacts global equity market performance. Working Paper, University of New South Wales School of Banking and Finance.

Yan, W., Hamill. P. A., Li. Y, Waterworth, J. and Vigne, S. (2018) ‘An Analysis of Liquidity Skewness for European Sovereign Bond Markets’, Finance Research Letters. 26: 274-280.