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Asset-Specific and Systematic Liquidity on the Swedish Stock Market

Dzhumurat, Tetiana LU and Lunina, Veronika LU (2010) NEKM03 20101
Department of Economics
Abstract
This essay studies the effect of liquidity on stock returns on the Swedish stock market. Liquidity is addressed both as a market risk factor and an asset characteristics. We use the relative bid-ask spread as a proxy for liquidity level. The aggregate liquidity factor Illiquid-Minus-Liquid is constructed in a similar way to Fama-French SMB and HML factors. Using monthly time-series regressions on the three-factor Fama-French model and the four-factor model including aggregate liquidity, we find that liquidity is priced as a systematic source of risk on the Swedish stock market. Moreover, monotonic increase in the regression intercepts for test portfolios arranged in the order of decreasing liquidity indicates the presence of characteristic... (More)
This essay studies the effect of liquidity on stock returns on the Swedish stock market. Liquidity is addressed both as a market risk factor and an asset characteristics. We use the relative bid-ask spread as a proxy for liquidity level. The aggregate liquidity factor Illiquid-Minus-Liquid is constructed in a similar way to Fama-French SMB and HML factors. Using monthly time-series regressions on the three-factor Fama-French model and the four-factor model including aggregate liquidity, we find that liquidity is priced as a systematic source of risk on the Swedish stock market. Moreover, monotonic increase in the regression intercepts for test portfolios arranged in the order of decreasing liquidity indicates the presence of characteristic illiquidity premium after controlling for systematic liquidity. In addition, we observe that the same models explain twice as much variation of stock returns in the more liquid groups, which suggests there is an omitted factor that has more impact on illiquid stocks. However, using monthly cross-sectional regressions of stocks’ excess returns on the various combinations of stock characteristics and factor loadings, we find that liquidity level proxied by relative bid-ask spread is not significant on average. (Less)
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author
Dzhumurat, Tetiana LU and Lunina, Veronika LU
supervisor
organization
course
NEKM03 20101
year
type
H1 - Master's Degree (One Year)
subject
keywords
systematic liquidity, characteristic liquidity, asset pricing, Fama-French model
language
English
id
1613620
date added to LUP
2010-06-16 10:49:36
date last changed
2010-06-16 10:49:36
@misc{1613620,
  abstract     = {This essay studies the effect of liquidity on stock returns on the Swedish stock market. Liquidity is addressed both as a market risk factor and an asset characteristics. We use the relative bid-ask spread as a proxy for liquidity level. The aggregate liquidity factor Illiquid-Minus-Liquid is constructed in a similar way to Fama-French SMB and HML factors. Using monthly time-series regressions on the three-factor Fama-French model and the four-factor model including aggregate liquidity, we find that liquidity is priced as a systematic source of risk on the Swedish stock market. Moreover, monotonic increase in the regression intercepts for test portfolios arranged in the order of decreasing liquidity indicates the presence of characteristic illiquidity premium after controlling for systematic liquidity. In addition, we observe that the same models explain twice as much variation of stock returns in the more liquid groups, which suggests there is an omitted factor that has more impact on illiquid stocks. However, using monthly cross-sectional regressions of stocks’ excess returns on the various combinations of stock characteristics and factor loadings, we find that liquidity level proxied by relative bid-ask spread is not significant on average.},
  author       = {Dzhumurat, Tetiana and Lunina, Veronika},
  keyword      = {systematic liquidity,characteristic liquidity,asset pricing,Fama-French model},
  language     = {eng},
  note         = {Student Paper},
  title        = {Asset-Specific and Systematic Liquidity on the Swedish Stock Market},
  year         = {2010},
}