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Liquidity or Credit Risk? The Determinants of Very Short-Term Corporate Yield Spreads




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    • Covitz is at the Federal Reserve Board. Downing is at Barclays Global Investors. The authors are grateful for helpful comments from an anonymous referee, Mark Carey, Paul Harrison, Eric Heitfeld, and Calvin Schnure. Shannon Hart provided excellent research assistance. This paper represents the views of the authors and does not necessarily represent the views of the Federal Reserve System or members of its staff. Any errors are our own.


Employing a comprehensive database on transactions of commercial paper issued by domestic U.S. nonfinancial corporations, we study the determinants of very short-term corporate yield spreads. We find that liquidity plays a role in the determination of spreads but, somewhat surprisingly, credit quality is the more important determinant of spreads, even at horizons of less than 1 month. These results are robust across a variety of proxies for liquidity and credit risk, and have important implications for the literature on the modeling of corporate bond prices.