European Bond Market Microstructure During The Crisis

Introduction
A new group white paper is out on the micro-structure of the European sovereign bond market during the Euro-Crisis, specifically June 1, 2011 to November 15, 2012.  The paper is a culmination of work with four authors from four universities (Pelizzon - U of Venice, Subrahmanyam - Stern New York, Tomio - Copenhagen Business School, and Uno - Waseda U.).

In light of the recently publicized conflicts around academic research and financial market micro-structure white papers, we will be providing links on the authors and analysts for those willing to research the deeper connections behind, say, lobbyists and the Glenn Hubbards and Fred Miskins of the world.  With that, going beyond the authors the data analysis was assisted by Simon Linwood and Christine Sheeka who work for Mercato Telematico dei Titoli di Stato (MTS) which is a data provider of tick-by-tick trades & quotes from individual broker/dealers.

The paper studied the non-linear relationships between Italy sovereign risk as gauged by CDS and the liquidity levels in the secondary bond market, using Bid/Ask Spreads as the gauge for liquidity in an attempt to determine the viability of the ECB's OMT & LTRO interventions.  The authors distinguish that previous papers (prior to Euro Crisis) set out to determine bond market liquidity primarily depended upon Limit-Order driven data as opposed to the Quote driven data used herein. 

Italian Bond Market Statistics
Italy has the third largest sovereign bond market after the United States and Japan.  Using MTS data to analysis this market proves beneficial as that data provides tick-by-tick quotes and trades, along with revisions and most importantly tracks individual orders.
  • The MTS data set involves 148 Italian Bonds.  These 148 Bonds had, over a 377 day sample population, an average issuance of €14 BN.  Highest issuance = €30 BN, lowest = €3 BN.  
  • Average Italian Bond maturity in the 148 bond group was 5.87 years and the average age was 2.38 years.  The low-end of the maturity = 2.5 months, high-end = 32 years.  
  • Analysis covered bonds with 0-18 year time frames.  The mean volume of the traded bonds was €5.37 BN and the average daily volume was €34 MN.
  • Number of trades per day per bond according to MTS was 4.05.   TRACE, a provider of Corporate Bond data, reported the number of trades for Corporate Bonds at 3.47/day.  Prior to the crash, from 2003-2007, Dufor & Nguyen reported average trades per day per bond was 10.
  • Amihud measure determined that on average, a €1MN transaction moves the price about 0.0271%.  
Table - 1
Trade-based Variables shows the cross-sectional distribution of the selected descriptive stats for the data set:

Table - 2
Quote-based Variables shows the cross-sectional distribution of liquidity measures:

The more liquid bonds saw their prices remain the stable between 6/1/2011 and 11/15/2012 where as the illiquid bonds saw a €1MN transaction move the price about 0.18%.  The paper states:
...on average, based on the Amihud measure, the MTS bond market for Italian government bonds is 29x more liquid than the US corporate bond market and 20x more liquid than the most liquid section of the US securitized product market.
Volume During The Day (Orders & Trade Quantity)
MTS Opens at 800 CET and the volume levels are reported as mute until 900 CET.  Around 10 AM roughly €25MN exchanged hands and that value was the average daily volume.  Traded volume peaked at 1030 with €58 MN changing hands.  After 1100 CET activity falls off until the final 5 minutes when the automation ramps the Bid/Ask spread.  This is visually displayed in Figure 1 and 2:
 
 
Quoted (Effective) Bid/Ask Spread
Bid/Ask Spread reaches a height of €3.5 per €100 of Face Value off the open of the market and steadily declines until about 9:30 CET where the time-series bid/ask median of €0.43 per €100 Face Value is reached.  The BA Spread remains stable until about 17:30 CET where it spikes in the final 5 minutes of trading, similar to what we see in US Equity and ETF markets, as displayed in Figure 2:
 

One final highlight to note is the liquidity situation when macro news events are produced.  In the following chart you'll see five-minute B/A spreads, the average being the red line and the actual being the blue line.  The period covered is the three days surrounding PM Berlusconi's resignation.   On November 9, 2011 "the overall market Quoted Bid-Ask Spread had an average of €4.46 per €100 in Face Value, versus a time-series median for the whole sample of €0.43".  On November 9 around noon you can see the height of the market makers extreme need to "consummate a trade" as the Quoted Bid-Ask Spread reached €9 of spread per €100 of Face Value.  In the paper this is Figure 5:
 

Prior to that peak, you can see a surge in the Total Quoted Quantity again highlighting the apparent need for dealers to unload Italian Bonds.  Figure 5b:
 


Conclusion
This paper helped to highlight the increased need post MiFID in Europe and REG-NMS in the States to analyze trades using tick-by-tick data coupled with execution data, revisions, and data on the orders generating this information.  A much more robust image of the markets is captured when researchers and regulators go beyond the usual Limit-Order driven data analysis and include order ID's and revisions to better understand the rapid-fire behavior of today's computer driven financial markets.
Read the remainder of the research below:

The Microstructure of the European Sovereign Bond Market: A Study of the Euro-zone Crisis by calibrateconfidence