Liquidity spreads in the corporate bondmarket: Estimation using a semi-parametric model

Jung Hsien Chang and Mao Wei Hung

Journal of Applied Statistics, 2010, vol. 37, issue 3, 359-374

Abstract: This study utilizes the liquidity risk associated with Treasury bonds to directly determine the degree to which liquidity spreads account for corporate bond spreads. This enhances understanding of their relative contributions to the yield spreads of corporate bonds. To capture time variation on instantaneous spreads and volatility and to reduce modeling bias, semi-parametric techniques are applied to estimate the time-varying intensity process. Empirical results indicate that our semi-parametric model is good at capturing the time variation in default and liquidity intensity processes. The credit spreads are due to default risk and reflect the relative liquidity of the corporate bond market, indicating that liquidity risk plays an important role in corporate bond valuation.

Keywords: liquidity risk; on-the-run; off-the-run; semi-parameter model; reduced-form model (search for similar items in EconPapers)
Date: 2010
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DOI: 10.1080/02664760802688681

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