The impact of a dealer's failure on OTC derivatives market liquidity during volatile periods

Peter A. Abken, Ellis Tallman and Larry Wall

No 96-6, FRB Atlanta Working Paper from Federal Reserve Bank of Atlanta

Abstract: This paper develops a model in which information losses may be an important part of the cost of an OTC derivatives dealer's failure. A dealer failure forces solvent counterparties of a failed dealer to seek replacement hedges with other dealers. However, by forcing good firms into the derivatives market, the failure provides camouflage for insolvent firms seeking to speculate with a dealer that does not know their credit status. The paper models this information loss and uses the model to quantitatively evaluate a range of scenarios. The results suggest that a market breakdown is unlikely but not quite impossible.

Keywords: Derivative securities; Liquidity (Economics) (search for similar items in EconPapers)
Date: 1996
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Working Paper: The impact of a dealer's failure on OTC derivatives market liquidity during volatile periods (1997)
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