The Federal Reserve Bank of New York works to promote sound and well-functioning financial systems and markets through its provision of industry and payment services, advancement of infrastructure reform in key markets and training and educational support to international institutions.
The Outreach & Education function engages, empowers and educates the public in the Second District. Our outreach mission furthers the Bank’s commitment to the region by listening to the communities we serve and developing programs, analysis and sponsored conferences and clinics to help meet their needs. Our education mission aims to advance public knowledge about the Federal Reserve System and its role in the economy.
An Empirical Analysis of Stock and Bond Market Liquidity
March 2003Number 164
JEL classification: G10, G14, G23, E52
Authors: Tarun Chordia, Asani Sarkar, and Avanidhar Subrahmanyam
This paper explores liquidity movements in stock and Treasury bond markets over a period of more than 1800 trading days. Cross-market dynamics in liquidity are documented by estimating a vector autoregressive model for liquidity (that is, bid-ask spreads and depth), returns, volatility, and order flow in the stock and bond markets. We find that a shock to quoted spreads in one market affects the spreads in both markets, and that return volatility is an important driver of liquidity. Innovations to stock and bond market liquidity and volatility prove to be significantly correlated, suggesting that common factors drive liquidity and volatility in both markets. Monetary expansion increases equity market liquidity during periods of financial crises, and unexpected increases (decreases) in the federal funds rate lead to decreases (increases) in liquidity and increases (decreases) in stock and bond volatility. Finally, we find that flows to the stock and government bond sectors play an important role in forecasting stock and bond liquidity. The results establish a link between macro liquidity, or money flows, and micro or transactions liquidity.
For a published version of this report, see Tarun Chordia, Asani Sarkar, and Avanidhar Subrahmanyam, "An Empirical Analysis of Stock and Bond Market Liquidity," Review of Financial Studies 18, no. 1 (spring 2005): 85-129.