Liquidity risk and <scp>CMBX</scp> microstructure

Abstract This is the first paper in the literature to focus on CMBX price formation with dual techniques of liquidity estimation. In this paper, we introduce a generalizable method using principal component analysis to estimate daily risk decompositions of default, interest rate, liquidity and excess liquidity from previously simulated reduced form monthly risk decompositions. Our method generates these measures for CMBX. To assess liquidity estimates, we compare our risk decomposition measures of liquidity to classical microstructure effective bid–ask spreads, daily. We find our measures to be significant in explaining effective bid–ask spreads over 12 years of daily history and in 20‐day forecasts.