This paper studies the effects of a supply shock to the liquidity of credit default swap (CDS) markets on bond spreads. Using as a laboratory the universe of CDS transactions done by German banks, our model is identified by changes in CDS market liquidity due to the exit of a large dealer. We find that the CDS market converges to a new equilibrium, where traded volumes are lower and bid-ask spreads are higher. Bond yields increase in response, with stronger effects for the non-investment-grade class. Individual portfolio data indicate that the effect is partly driven by investors decreasing their holdings of both CDS and related bonds. We, therefore, show that derivative markets can affect demand in underlying securities and, subsequently, the issuers’ cost of capital.