Market Structure and Transaction Costs of Index CDSs

Despite a regulatory effort to promote all-to-all trading, the post-Dodd-Frank index CDS market remains two-tiered. Transaction costs are higher for dealer-to-client than interdealer trades, but the difference is explained by the higher, largely permanent, price impact of client trades. Most interdealer trades are liquidity motivated and executed via low-cost, low-immediacy trading protocols. Dealer-to-client trades are not anonymous; they almost always improve upon contemporaneous executable interdealer quotes, and dealers appear to price discriminate based on the perceived price impact of trades. Our results suggest the market structure is a consequence of the characteristics of client trades: relatively infrequent, large in size, and differentially informed.

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