Liquidity Effects in the Bond Market

41 Pages Posted: 17 Nov 2001 Last revised: 24 Oct 2010

See all articles by Boyan Jovanovic

Boyan Jovanovic

New York University - Department of Economics

Peter L. Rousseau

Vanderbilt University - Department of Economics

Date Written: November 2001

Abstract

Our paper reports the following two findings: 1) In monthly data, bond purchases by the Fed raise bond prices and reduce bond yields. The residual bond-supply to traders is not fully predictable, and this supply-risk adds between 10 and 40 basis points to the standard deviation of the real interest rate on T-bills. 2) The Fed's open market purchases do not raise stock prices or reduce stock returns. If anything, they raise stock returns. More generally, bonds and stocks do not co-move at high frequencies. To explain these two facts, we model the bond and stock markets as spatially separate or 'segmented'. In the model, bond purchases lower bond rates, but they do not affect stock returns, and this is consistent with both facts.

Suggested Citation

Jovanovic, Boyan and Rousseau, Peter L., Liquidity Effects in the Bond Market (November 2001). NBER Working Paper No. w8597, Available at SSRN: https://ssrn.com/abstract=291271

Boyan Jovanovic (Contact Author)

New York University - Department of Economics ( email )

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Peter L. Rousseau

Vanderbilt University - Department of Economics ( email )

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615-343-2466 (Phone)
615-343-8495 (Fax)

HOME PAGE: http://www.vanderbilt.edu/econ/faculty/rousseau.html

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