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When David becomes Goliath: Repo dealer-driven bond mispricing

Carlos Canon, Eddie Gerba, Jozef Barunik

Abstract

This paper studies the impact of funding market frictions on bond prices and market-wide liquidity. Using proprietary transaction-level data on all gilt-backed repo and reverse-repo trades, we demonstrate how the market power of individual dealers and their linkages generate frictions. Specifically, we show that frictions related to market power account for between 0.5 and 1.3 percentage points of bond yield deviation, while the transmission of heterogeneously persistent shocks between dealers accounts for between 2 and 4 percentage points of yield deviation.

When David becomes Goliath: Repo dealer-driven bond mispricing

Abstract

This paper studies the impact of funding market frictions on bond prices and market-wide liquidity. Using proprietary transaction-level data on all gilt-backed repo and reverse-repo trades, we demonstrate how the market power of individual dealers and their linkages generate frictions. Specifically, we show that frictions related to market power account for between 0.5 and 1.3 percentage points of bond yield deviation, while the transmission of heterogeneously persistent shocks between dealers accounts for between 2 and 4 percentage points of yield deviation.
Paper Structure (36 sections, 30 equations, 8 figures, 21 tables)

This paper contains 36 sections, 30 equations, 8 figures, 21 tables.

Table of Contents

  1. Introduction
  2. Hypotheses
  3. Empirics
  4. Data
  5. Stylized facts
  6. Dealers hold more counterparts than non-dealers
  7. OTC vs inter-dealer segments
  8. Sector heterogeneity in OTC segment
  9. Existence of global dealer factors
  10. Main Variables
  11. Market Power
  12. Dealer Factors
  13. Other relevant covariates
  14. Identification
  15. Market power and relationship-trading metrics
  16. ...and 21 more sections

Figures (8)

  • Figure 1: Unique gilts vs Mean Volume & Mean ResMaturity at OTC segment for both repo and reverse repo. Note the volumes are divided by $10^6$.
  • Figure 2: Log volume and repo rate spread using the non-dealer dataset with daily frequency. The spread is the difference between the repo rate and the reference rate.
  • Figure 3: Global dealer factors derived from both transitory and persistent shocks to repo and reverse repo volumes and spreads.
  • Figure 4:
  • Figure 5: Repo Market Structure
  • ...and 3 more figures