We study how the Eurosystem Collateral Framework for corporate bonds helps the European Central Bank (ECB) fulfill its policy mandate. Using the ECBs eligibility list, we identify the first inclusion date of both bonds and issuers. We find that due to the increased supply and demand for pledgeable collateral following eligibility, (i) securities lending market trading activity increases, (ii) eligible bonds have lower yields, and (iii) the liquidity of newly-issued bonds declines, whereas the liquidity of older bonds is una↵ected/improves. Corporate bond lending relaxes the constraint of limited collateral supply, thereby making the market more cohesive and complete. Following eligibility, bond-issuing firms reduce bank debt and expand corporate bond issuance, thus increasing overall debt size and extending maturity.

Inflation-indexed products constitute a multitrillion dollar market segment worldwide. These assets can be found in many investment and hedging portfolios: the most common inflation payers are sovereigns, utility companies, and real estate investors; while on the receiver side pension and insurance funds, asset managers and investment banks are the most prominent counterparties. Despite their practical importance and the corresponding anecdotal evidence, studying liquidity characteristics of these assets has not attracted academic attention comparable to that of nominal bonds. Nevertheless, understanding these liquidity effects is important for several reasons. First, liquidity effects directly matter for the relative pricing of nominal and indexed bonds, as well as for the breakeven inflation rate implied by these prices. Similarly, liquidity effects in inflation swaps distort the inflation expectations that can be extracted from quoted swap prices.We show that in both index-linked bond markets and inflation swap markets liquidity is an important determinant of prices. We do so by estimating a model with both a liquidity risk factor and asset-specific liquidity characteristics. To estimate the effect of liquidity risk, we measure an asset's exposure to a non-traded liquidity factor. In addition to this risk exposure, the level of liquidity is proxied by asset-level characteristics. We conduct our analyses based on two alternative assumptions -we either propose the three markets being segmented (benchmark case), such that prices are independently determined, or integrated markets. We find strong evidence that the level of liquidity affects yields of TIPS, whereas inflation swap yields include a liquidity risk premium. More specifically, for TIPS, the effect of illiquidity risk is dominated by that of asset characteristics. Age and size of an issue together carry a sizable premium of about 33 basis points per year. As for inflation swaps, we find that illiquidity risk is priced, yet the premium and the implied economic effect, 1.65 basis points per year, are small. We also study liquidity effects in nominal bonds in a similar way, and find a small liquidity risk premium in the nominal bond market, similar in magnitude to that of the on-the-run spread. In integrated markets, results regarding TIPS and nominal Treasuries are akin to the benchmark case, however, the price of illiquidity risk in the swap market is negative and twice as large as in the benchmark case, -3.41 basis points per year.Additionally, we also study whether the exposure to liquidity and liquidity risk could explain the persistent difference in relative bond prices, as documented by Fleckenstein et al. (2014). They uncover a material price difference between nominal bonds and inflation-swapped indexed bonds (TIPS) that exactly replicate the cash flows of the nominal bond. This replicating portfolio trades at a discount relative to nominal bonds, which is mostly attributed to the underpricing of TIPS. But what could be the reason for this underpr...

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After the global financial crisis, institutions have gradually moved from the unsecured interbank lending market to the repo markets to cover their funding needs. At the same time, while the supply of high quality liquid assets (HQLA) began to shrink with banks' reduced risk taking and window-dressing, the demand grew with the shift towards derivative clearing via central counterparties. This created interest in large-scale collateral swaps, upgrading low quality assets to fixed income HQLA in the securities lending market. These market forces and lenders' growing awareness to generate alternative income from passive assets through securities lending gave rise to a multi-trillion dollar fixed income segment in the global securities lending market. In this study, we focus on the primary and secondary market for German treasuries and discuss the negative welfare implications arising from the still nontransparent oligopolistic securities lending market. We first show that in the primary market, prime broker bidding group members may artificially inflate the prices of HQLA in search of scarce safe assets, disadvantaging long-term investors, such as pension funds and insurance firms, who have to gain access to these assets. More importantly, in examining the pricing implications in the secondary market, we show that prime brokers acting as lending agents for pension funds may exploit their information advantage, and do not fully compensate these lenders with limited bargaining power. Overall, we suggest that the artificially depressed yields for safe European sovereign bonds in combination with the inherent inefficiencies in the securities lending market have important negative welfare implications for the European pension system. Pension funds and insurance firms struggle to generate returns or alternative lending income from securities lending, while on the other hand being responsible for preserving wealth and managing retirement savings for the majority of European citizens. Our results have important policy implications. We suggest that pension funds and insurance firms need to become more proactive by either managing their own lending desk or by lobbying for more regulatory oversight and greater transparency to improve their bargaining power. From a welfare perspective, we suggest that it is inefficient to restrict pension funds to purchase treasuries in the secondary market through prime broker-dealers because this exposes them to significant direct and indirect costs, which in the end are borne by the pensioners.

We propose an easy to implement yield curve extrapolation method to determine long-term interest rates suitable for regulatory valuation. We empirically evaluate this approach for the German nominal bond market, by estimating the model on bonds with maturities up to 20 years and assessing the out-of-sample performance for bonds with maturities beyond 20 years. Even though observed long-term yields are somewhat lower than the predicted yields, the method performs quite well empirically given its simplicity. We perform a case study on pension fund liability valuation and show that our proposed method would have a substantial impact on liability values.