RDP 2025-07: Back to the Futures: Liquidity in Australian Bond Futures amid Market-moving Events since COVID-19 2. Literature Review

Studies looking at AGS futures typically find the market to be liquid and efficient, with prices incorporating information from major data releases within 30 seconds, and no evidence of information leakage in the form of prerelease price movements (e.g. Kim and Sheen 2001; Smales 2012; Heng et al 2020). This paper builds on the previous literature by expanding on the number of liquidity metrics and event types studied, and also updates the analysis to cover the 2019–2025 period, which encompasses a number of major economic events (Finlay, Titkov and Xiang 2023).

Major economic data releases and monetary policy announcements are typically associated with higher trading volumes but a deterioration in other measures of market liquidity. For example, Tsuchida, Watanabe and Yoshiba (2016) find that trading volumes in Japanese Government bond futures tend to rise around such events, but that other measures of liquidity such as market depth fall. Focusing on Australian studies, Kim and Sheen (2001) find that economic surprises lead to elevated AGS bond futures trading volumes, while Lu, In and Kou (2009) and Lu, Qu and Zhou (2015) find that monetary policy surprises lead to increased AGS futures volatility, and Frino and Hill (2001) find that bid-ask spreads tend to widen ahead of major data releases and remain wider for a period after the release. International studies find qualitatively similar results, namely that liquidity is generally worse at times of high volatility (e.g. Chorida, Sarkar and Subrahmanyam 2005; Nguyen et al 2020; Meldrum and Sokolinskiy 2025). One international study suggests that some of the Bank of England's gilt purchases had no discernible effect on liquidity in gilt futures (Fullwood and Massacci 2018).

The impact of central bank yield target policies on futures liquidity appears to depend on how aligned the yield target is with underlying market pricing. For example, Fukuma et al (2024) find that bid-ask spreads in the Japanese Government bond futures market fell and transaction volumes rose (i.e. the market became more liquid) over a period when the Bank of Japan's yield curve control (YCC) policy was well aligned with underlying market pricing, but that these trends reversed during a period in which the YCC policy deviated from market pricing. Similarly, Finlay et al (2023) find that market depth (i.e. the quantity of buy and sell orders at different price levels) in the 3-year AGS futures contract rose over a period when the RBA's yield target was well aligned with fundamentals, but fell to very low levels once market participants came to expect the policy to be removed and yields to rise above the target level.

Studies looking at top-of-book order imbalance – that is, the number of buy orders at the best available price less the number of sell orders at the best available price – find that positive order imbalance (more buy than sell orders) is contemporaneously associated with an increase in price, as one might expect. Conversely, past increases in price tend to have an opposing effect on order imbalance and result in fewer buy orders relative to sell orders (e.g. Chorida, Roll and Subrahmanyam 2002; Smales 2012).

Finally, studies looking at the effect of tick size changes – that is, the minimum yield or price increment that it is possible to trade in – tend to find that smaller tick sizes lead to narrower bid-ask spreads (although some studies find no impact), either unchanged or higher trading volumes, and lower depth. For example, see Ahn, Cao and Choe (1996), Bourghelle and Declerck (2004), Pavabutr and Prangwattananon (2009) and Werner et al (2023), who examine equity exchanges. However, Fleming, Nguyen and Ruela (2024), who study 2-year US Treasury bonds and futures, find that depth is little changed after appropriately adjusting for the mechanical effect of the change – that is, if tick sizes are halved, there may be less depth available at the best price, but depth available at the best two prices, which together encompass what would previously have been the best price, is little changed. A non-peer-reviewed study looking at the increase in the tick size for 3-year AGS futures in October 2022 found that it diminished liquidity (Li and Narayanan 2023).

We find qualitatively similar results to those discussed above, with the partial exception of the effect of a tick size change, where, different from Fleming et al (2024), we find that an increase in the minimum price increment that the 3-year futures contract could trade in led to an improvement in liquidity conditions. This difference likely relates to the relative underlying liquidity of AGS versus US Treasury bonds, as discussed in Section 5, consistent with the model and empirical evidence presented in Werner et al (2023).