Liquidity Risk and Specialness

In: Business and Management

Submitted By zp13
Words 21572
Pages 87
Journal of Financial Economics 64 (2002) 243–284

Liquidity risk and specialness$
Andrea Buraschia,*, Davide Meninia,b a London Business School, Institute of Finance, Sussex Place, Regents Park, London NW1 4SA, UK b Morgan Stanley, UK Received 11 July 2000; received in revised form 4 April 2001

Abstract Repo contracts, the most important form of collateralized lending, are widely used by financial institutions and hedge funds to create short-selling positions and manage their leverage profile. Moreover, they have become the primary tool of money management and monetary control of several central banks, including the Bundesbank and the newly born European Central Bank. This paper is an empirical study of this market. More specifically, we study the extent to which the current term structure of long term ‘‘special’’ repo spreads discount the future collateral value (specialness) of Treasuries. We ask whether repo spreads embed a liquidity risk premium and whether such a risk premium is time-varying. We quantify the size of the average liquidity risk premium and we provide empirical evidence of the extent of its time-variation. r 2002 Elsevier Science B.V. All rights reserved.
JEL classification: G12; G13; G14; C22; C31; E43 Keywords: Liquidity risk; Treasury bonds; Repo contracts; Special repo rate; Expectation hypothesis; Treasury auctions

The authors want to thank Federico Bandi, Ravi Bansal, Jacob Boudoukh, Mark Britten-Jones, Ian Cooper, Francesco Corielli, Mark Fisher, Francis Longstaff, Anthony Neuberger, Marti Subrahmanyam, James Tomkinson, Zvi Wiener, and participants to the 9th Annual Derivatives Securities Conference, Boston, the Global Finance Conference, Instambul, London Business School, Stockholm School of Economics, 1999 WFA Conference, The Red Sea Conference. A special thanks to Stephen Schaefer for his support and comments. *Corresponding…...

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