Discussion Paper Details

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Title: A Tale of Two Platforms: Dealer Intermediation in the European Sovereign Bond Market

Author(s): Peter Dunne, Harald Hau and Michael Moore

Publication Date: September 2008

Keyword(s): Adverse Selection, Dealer Intermediation, Market Segmentation and Spread Determination

Programme Area(s): Financial Economics

Abstract: Interdealer trading in the European sovereign bond market is characterized by low spreads and high liquidity. This paper examines whether the dealer-customer segment of the market also benefits from low spreads. Customers are smaller banks and buy-side financial institutions who request quotes from primary dealers. They generally do not enjoy access to the interdealer trading platform. Surprisingly, we find that customer trades are on average competitively priced and often occur inside the interdealer spread. Moreover, higher market volatility increases interdealer spreads more than customer spreads. The theoretical part of the paper develops a new dynamic model of dealer intermediation which captures the segmented market structure of the European bond market. The model explains differences in the volatility dependence of interdealer and customer spreads. The predicted inventory dependence of customer trade quality is also confirmed in the data.

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Bibliographic Reference

Dunne, P, Hau, H and Moore, M. 2008. 'A Tale of Two Platforms: Dealer Intermediation in the European Sovereign Bond Market'. London, Centre for Economic Policy Research.