Systematic Fixed Income

CHAPTER 9Liquidity and Trading Considerations

OVERVIEW

This chapter discusses the implementation challenges related to sourcing and providing liquidity. Although these issues are common to all asset classes (fixed income, stocks, and currencies), they are particularly acute for credit‐sensitive assets within the fixed income asset class. This is due to a combination of the over‐the‐counter nature of trading and the huge breadth of issues to choose from and the venues to trade in. We will focus on the evolving microstructure of credit‐sensitive assets and highlight opportunities for systematic investing approaches within this challenged liquidity environment.

9.1 SOME CONTEXT FOR THE LIQUIDITY CHALLENGES OF FIXED INCOME ASSETS

We will start by looking at high‐level data on transaction costs across the main asset classes (fixed income, stocks, currencies, and commodities). Exhibit 9.1 shows high‐level information on market capitalization, average daily trading volumes, turnover, number of securities, bid–ask spreads, and volatilities. I show this only for US markets covering (i) US government bonds (Treasury), (ii) US corporate bonds inclusive of investment‐grade (IG) and high‐yield (HY) bonds (corporate), and (iii) US equities inclusive of stocks listed on NYSE, Nasdaq, and over‐the‐counter exchange (OTCQX, stocks).

Exhibit 9.1 makes it clear that despite similar relative sizes of government bond, corporate bond, and stock markets (all exceed $10 trillion USD) there are large ...