Liquidity and Credit Risk in Emerging Debt Markets

Bond market investor herding: Evidence from the European financial crisis

“…Default risk reflects the risk that a borrower will not fulfill the obligations for interest payments or capital repayment, while liquidity risk reflects the possibility that bond investors may not be able to sell their holdings without affecting prices in secondary markets. Hund and Lesmond (2008) find that liquidity risk plays an important role in determining bond spreads even after accounting for macroeconomic factors. Other studies report that liquidity is important in explaining spreads along with either default risk (Ferrucci, 2003;Gomez-Puig, 2006;Schwarz, 2009), or, as regards to euro area sovereign spreads, a common factor (Barbosa & Costa, 2010).…”

Determinants of Sovereign Risk: Macroeconomic Fundamentals and the Pricing of Sovereign Debt

“…Hund and Lesmond (2007) provide evidence that a significant part of the spread on emerging market corporate and sovereign debt may be explained by liquidity. Borri and Verdelhan (2008), Martell (2008), Remolana et al (2008), and Andrade (2009) also investigate non-default risk determinants of spreads in the sovereign bond market.…”

Overcrowding Versus Liquidity in the Euro Sovereign Bond Markets

“…According to the two-period general equilibrium model of bond pricing by Favero et al (2005), yield differentials should decrease in liquidity and increase in risk. As for the balance between these two factors, Hund and Lesmond (2008) document that liquidity appears to dominate credit risk in explaining cross-sectional variations in yield spreads. By explicitly distinguishing the influence of credit risk and microstructure variables, Codogno et al (2003) point out that while microstructure factors impact yields at high frequency, risk-related determinants reflect slow-moving economic fundamentals.…”