As part of her bachelor’s thesis, Akpoguma studied bond-market liquidity and, in particular, the factors that have often been used to describe it in previous studies but which she believes should not be applied because of the unique nature of the asset class.

Most academic literature on liquidity has an equity focus, and Akpoguma argues that the fundamental differences between the equity and bond markets means not all the equity-specific information should be applied to fixed income. “Fairly quickly, I discovered that there is a lot of information about equity-market liquidity but not that much about bond-market liquidity,” she comments.

Having moved on to employment at L-Bank, Akpoguma began preparing a qualitative assessment of L-Bank bonds’ market liquidity. In preparation for this, she prioritised liquidity factors that she believes are most important with the goal of developing a dynamic system of liquidity analysis that can swap influencing factors in and out based on investor needs.

“Right from the beginning it was planned to be a dynamic system that is able to take market developments into account, to be able to adjust the system and track liquidity on an ongoing basis,” Akpoguma reveals.

A key component of this work is an investor survey sent to 15 global buyers of L-Bank bonds. This uncovered two key elements: investors universally report that market liquidity is at least somewhat important and in many cases essential to purchase decisions, and there is no consensus opinion on the liquidity of L-Bank bonds.

Akpoguma adds: “Opinion on the liquidity of our bonds was so varied. We had some international investors saying they are very liquid and then we had local German investors saying they are not liquid at all. What we concluded was that the market doesn’t really know what the actual liquidity of our bonds is.”

At the same time, dealer data confirm that L-Bank bonds are tightly held with limited free float and even less trading activity. However, quote volume is only fully interrupted in the event of high-stress scenarios or “violent market volatility”.

A critical factor is the nature of investors in the issuer’s curve: L-Bank classifies 85 per cent as buy-and-hold in nature, and these account for 82 per cent of bonds issued.

Several static factors are supportive of L-Bank bond liquidity, while the more dynamic factors exhibit a more mixed picture (see table). In particular, Akpoguma’s final report highlights the likely positive impact of the end of the European public sector purchase programme.

But she concludes: “Although L-Bank bonds are not regularly traded in the secondary market it can be ruled out that they are unattractive. Instead it can be stated that although there is little to no supply of federal state promotional bank bonds in the secondary market, demand is always expected.”

Static and dynamic factors influencing L-Bank bond liquidity

Source: L-Bank November 2018

Akpoguma continues: “If market liquidity is understood to mean that assets can be sold at any time in the desired size and without any substantial impact on their secondary price, promotional bank bonds can fulfil this aspect. Lack of L-Bank bond trading transactions is therefore not necessarily classified as harmful to liquidity.”

The issuer also wants to be transparent and realistic about liquidity in its own curve. For instance, although Bloomberg’s volume-based liquidity indicator assigns high liquidity scores of 97-99 out of 100 to L-Bank’s euro bonds, the agency’s extended calculation methodology only assigns a score of around 80 out of 100.

L-Bank international funding officer, Sven Lautenschläger, says the value of the study lies in the way it can inform the issuer and its investors about the true state of liquidity in L-Bank bonds and allow both to anticipate pricing appropriately.

He tells KangaNews: “For us, the most important result internally was answering the question of whether it is reasonable to pay up relative to other issuers. For our investors, the information is quite important as it could lead them to making different assumptions – and in some cases perhaps being willing to look more closely at L-Bank.”

While the study has no desire to conceal the limited turnover in L-Bank bonds, Lautenschläger says this reality is already largely priced into the issuer’s curve. “I have no expectation that the information will negatively change our spreads – in fact in respect of turnover it is really just a confirmation for investors that what they have asked for in margin is appropriate.”