The Pricing of Bank Bonds, Sovereign Credit Risk and ECB’s Asset Purchase Programmes

Abstract

The 2008 Global financial crisis and the subsequent European sovereign debt crisis deteriorated banks funding conditions and lead to a substitution effect among bond instruments. We examine the pricing of straight, covered and securitization bonds issued by European banks in the 2000-2016 period, with a particular focus on the effect of sovereign credit risk and ECB’s asset purchase programmes on spreads. We find that (i) straight, covered and securitization bonds are priced in segmented markets, (ii) the impact of common pricing determinants on spreads differ significantly between non-crisis and crisis periods, (iii) sovereign credit risk is an important determinant of banks’ cost of funding, especially in crisis periods, (iv) ECB’s asset purchase programmes exhibited mixed effectiveness in improving banks funding conditions, (v) contractual bond characteristics other than credit ratings, macroeconomic factors and bank characteristics are important determinants of spreads, and (vi) there is evidence of heterogeneity across countries.