Capital Commitment and Illiquidity in Corporate Bonds

We study trading costs and dealer behavior in U.S. corporate bond markets from 2006 to 2016. Despite a temporary spike during the financial crisis, average trade execution costs have not increased notably over time. However, alternative measures, including dealer capital commitment over various time horizons, turnover, block trade frequency, and average trade size not only decreased during the financial crisis, but continued to decline afterward. We find that these declines are attributable to bank-affiliated dealers, as non-bank dealers have increased their market commitment. The evidence shows that liquidity provision in the corporate bond markets is evolving away from the traditional commitment of bank-affiliated dealer capital to absorb customer imbalances, and supports the interpretation that post-crisis banking regulations likely contributed