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Debt maturity and the liquidity of secondary debt markets

Bruche, Max and Segura, Anatoli (2013) Debt maturity and the liquidity of secondary debt markets. Financial Markets Group discussion paper (DP726). Financial Markets Group, The London School of Economics and Political Science, London, UK.

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Abstract

We develop an equilibrium model of debt maturity choice of firms, in the presence of fixed issuance costs in primary debt markets, and an over-the-counter secondary debt market with search frictions. Liquidity in this market is related to the ratio of buyers to sellers, which is determined in equilibrium via the free entry of buyers. Short maturities improve the bargaining position of debtholders who sell in the secondary market and hence reduce the interest rate that firms need to offer on debt. Long maturities reduce re-issuance costs. The optimally chosen maturity trades of both considerations. Firms individually do not internalize that choosing a longer maturity increases the expected gains from trade in the secondary market, which attracts more buyers, and hence also facilitates the sale of debt issued by other firms. As a result, the laissez-faire equilibrium exhibits inefficiently short maturity choices. Empirical implications of the model include that issuance yields and bid-ask spreads should be increasing in maturity.

Item Type: Monograph (Discussion Paper)
Official URL: http://www2.lse.ac.uk/fmg/home.aspx
Additional Information: © 2013 The Authors
Divisions: Finance
Financial Markets Group
Subjects: H Social Sciences > HB Economic Theory
H Social Sciences > HG Finance
JEL classification: G - Financial Economics > G1 - General Financial Markets > G12 - Asset Pricing; Trading volume; Bond Interest Rates
G - Financial Economics > G3 - Corporate Finance and Governance > G32 - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure
Sets: Departments > Finance
Collections > Economists Online
Research centres and groups > Financial Markets Group (FMG)
Collections > LSE Financial Markets Group (FMG) Working Papers
Date Deposited: 22 Jan 2014 16:04
Last Modified: 20 Feb 2019 03:44
URI: http://eprints.lse.ac.uk/id/eprint/55404

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