Intermediary Leverage Shocks and Funding Conditions
56 Pages Posted: 11 Aug 2020 Last revised: 6 Jan 2021
Date Written: July 11, 2020
The leverage of financial broker-dealers responds to demand- and supply-like shocks. Supply shocks relax their funding constraint and raise leverage, while demand shocks also raise leverage but tighten the constraint. The shocks play opposite roles in financial markets. Leverage supply shocks improve liquidity and carry a positive price of risk, while leverage demand shocks worsen liquidity and carry a negative price of risk. Because of this difference in signs, disentangling the two types of shocks strengthens the evidence for intermediation frictions in asset pricing, resolves some of the existing puzzles, and can help understand the different mechanisms driving broker-dealer leverage.
Keywords: Broker-dealers, Leverage, Asset pricing
JEL Classification: E43, H42
Suggested Citation: Suggested Citation