A Study Of Illiquidity In China Bond Market

To deeply understand China bond markets, this thesis mainly devotes to five prob-lems of the relationship between illiquidity and bond price from the point of bond illiquidity. Firstly, we outline China’s bond market from two dimensions to facilitate research. The first dimension is bonds’ issue. The second dimension is bonds’ trading.Secondly, given the diversity measure of illiquidity and the demands of later dis-cussion, we analysis the correlation of four illiquidity measures from cross-section and time series using treasury bonds’ trading and quote data from January 2002 to February 2013. Empirical findings shows that Amihud (2002) and bonds’ trading noise do well in measuring illiquidity about using low frequency transaction data.Thirdly, we study the effects of corporate bonds’ illiquidity on risk premium using corporate bond trading data from October 2007 to May 2011 based on Amihud(2002) illiquidity measure. We find Amihud(2002) illiquidity measure is significantly posi-tively correlated with risk premium after controlling for credit risk and equity volatility in the cross-section. Empirical study also present equity volatility and twice stamp tax adjustments in 2008 have significantly robust positive effect on risk premium.In the fourth part, through fitting term structure of yield to maturity, we calculate the noise measure from China treasury bond market using daily secondary market trad-ing data, intra-day transaction data and two-way best quote data of interbank treasury bond market from January 2002 to February 2013 as well as Svensson(1994) model, and examines illiquidity factors which may affect it from time series and cross-section. Empirical findings suggest new added qualified number of interbank bond market and available capital that can be invested in bonds by commercial banks can significantly decrease it. Empirical studies also present market makers’quote behavior of interbank market has significant effect on bonds’ trading noise. This is the first study on empirical analysis of bonds’ trading noise from a more comprehensive view in Chinese govern-ment bond market, which contributes to the research on the behavior of bonds’ trading. It also has a strong practical value for improving trading mechanism, understanding characteristics of transaction prices and studying trading strategies in bond market.In the fifth part, we study the impact of launching treasury futures on treasury bonds using treasury bonds’trading and quote data from January 2010 to February 2014. Empirical finds suggest that treasury futures can significantly improve the liq-uidity of inter-bank bond market and stabilize the treasury bond cash market. After controlling the market variable and bond character variable, bond price deviation de-crease 9.4 bp at the presence of treasury bond futures and 5.4 bp for the sample of maturity belonging to the interval of between 4 and 7 years. Since the trading of inter-bank bond market accounts for the vast majority of treasury transactions, the liquidity of treasury bond has been significantly improved after the coming of treasury futures.This thesis has several contribution using theory and empirical study through fol-lowing the streams of literature on term structure of interest rate and liquidity. Firstly, our paper contribute to the study of China bond market from the point of bond issuing and trading, especially the issuance and trading of the exchange and inter-bank bond markets. Secondly, our paper provide pricing evidence of illliquidity on corporate bond risk premia using several measures of illiquidity. Thirdly, through empirical analysis of bonds’trading noise from a more comprehensive view in Chinese government bond market, our paper contributes to the research on the behavior of bonds’trading. So it provides empirical evidence for improving trading mechanism and understanding char-acteristics of transaction prices. Fourthly, it also has a strong practical value for study-ing trading strategies in bond market using hight frequency data to estimate daily term structure of interest rate and observing trading sample distribution in estimated curve. Fifthly, our paper provides an efficient method for monitor treasury bond trading and measuring systemic risk of inter-bank markets. Through this way, we can monitor the inter-bank market bond trading and prevent the occurrence of benefits transport.sixthly, our paper provides empirical evidence that treasury future can improve liquidity of trea-sury bond market. Lastly, with the introduction of treasury futures and development of interest rate marketization, there is a urgent for finding a benchmark yield curve that can be widely accepted by market participants. This article provides a practical solution for establishing the yield curve of reflecting market supply and demand.