Regulatory pressure and fire sales in the corporate bond market

This paper investigates fire sales of downgraded corporate bonds induced by regulatory constraints imposed on insurance companies. As insurance companies hold over one-third of investment-grade corporate bonds, the collective need to divest downgraded issues may be limited by a scarcity of counterpa...

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Bibliographic Details
Published in:Journal of financial economics 2011-09, Vol.101 (3), p.596-620
Main Authors: Ellul, Andrew, Jotikasthira, Chotibhak, Lundblad, Christian T.
Format: Article
Language:English
Subjects:
Bond markets
Corporate bonds
Divestiture
Fire sales
Fire sales Regulation Price pressure Liquidity Corporate bonds Insurance companies
Insurance companies
Insurance industry
Liquidity
Price pressure
Regulation
Securities regulations
Studies
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Summary:This paper investigates fire sales of downgraded corporate bonds induced by regulatory constraints imposed on insurance companies. As insurance companies hold over one-third of investment-grade corporate bonds, the collective need to divest downgraded issues may be limited by a scarcity of counterparties. Using insurance company transaction data, we find that insurance companies that are relatively more constrained by regulation are more likely to sell downgraded bonds. Bonds subject to a high probability of regulatory-induced selling exhibit price declines and subsequent reversals. These price effects appear larger during periods when the insurance industry is relatively distressed and other potential buyers' carpital is scarce.
ISSN:0304-405X
1879-2774
DOI:10.1016/j.jfineco.2011.03.020