To Disclose or not to Disclose: Transparency and Liquidity in the Structured Product Market

We analyze liquidity effects in the US fixed-income structured product market using the new Trade Reporting and Compliance Engine (TRACE) of the Financial Industry Regulatory Authority (FINRA). As of May 16, 2011, virtually all trades in this market have had to be reported, a fact which that we use in this study, including in our dataset transactions up to October 31, 2012. Our main contribution is the analysis of the relation between the measurement of liquidity and the disclosure of information. We compare a wide range of liquidity measures that are based on various information sets using different levels of detail, and provide evidence that transaction cost measures computed at a more aggregate level may still be reasonable proxies for liquidity. This finding is important for all market participants in the context of OTC markets, but particularly for regulators, who need to decide on the level of detail of the transaction data to be disseminated to the market. In addition, we explore the trading activity and transaction costs of the various segments of the structured product market. We find that liquidity is quite diverse, with average costs of a round-trip trade around 67 bp, and that securities that are mainly institutionally traded, guaranteed by a federal authority, or have low credit risk, tend to be more liquid