Secondary Market Liquidity and Primary Market Pricing of Corporate Bonds

This paper studies the link between secondary market liquidity for a corporate bond and the bond’s yield spread at issuance. Using ex-ante measures of expected liquidity at the time of issuance, based on the characteristics of the underwriting syndicate, we find an economically large impact of liquidity on yield spreads. We estimate that a 10% increase in expected liquidity implies a decrease in the yield spread at issuance of between 8% and 14%. Our results suggest that liquidity has an important effect on firms’ cost of capital, and they contribute to the literature which examines the impact of liquidity on asset prices.