Liquidity, Competition & Price Discovery in the European Corporate Bond Market

Using a new trades and quotes dataset, we study European corporate bonds. In this OTC market, Euro denominated bonds trade on average 4 times a day and Sterling bonds 1.5 times a day. Spreads increase with maturity, default risk and dealers’ market power. For a €100 bond price, in 2005, effective spreads ranged from 12 cents for small trades to 8 cents for large ones. For Sterling bonds, effective spreads ranged from 28 to 15 pence. Greater competition and liquidity and tighter spreads in the Euro market reflect participation by investors and banks from many countries. Trades have significant information content, especially for bonds with low ratings. It takes at least five trading days for the information content of a trade to be fully impounded in market pricing, reflecting lack of post trade transparency.