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Does more trade equal less return - Applied on the Swedish stock market

Persson, Pontus LU and Pavlica, Semir LU (2012) BUSP69 20121
Department of Business Administration
Abstract
The main purposes in this master´s thesis are to examine the effect of liquidity on stock returns but also measuring the return premium in relation to liquidity towards the Swedish stock exchange market. In order to test these relationships the Fama and MacBeth (1997) Cross-sectional methodology have been applied. The relationships are tested for two different types of liquidity, the turnover rate and the relative bid-ask spread. Robustness test for the findings have also been performed. The sample consists of Swedish companies listed on Nasdaq OMX, from the time period of 1995-2011 where the data have been collected from DataStream and Nasdaq OMX.

Theoretically liquidity is seen as a risk factor, a cost of trade, and hence rational... (More)
The main purposes in this master´s thesis are to examine the effect of liquidity on stock returns but also measuring the return premium in relation to liquidity towards the Swedish stock exchange market. In order to test these relationships the Fama and MacBeth (1997) Cross-sectional methodology have been applied. The relationships are tested for two different types of liquidity, the turnover rate and the relative bid-ask spread. Robustness test for the findings have also been performed. The sample consists of Swedish companies listed on Nasdaq OMX, from the time period of 1995-2011 where the data have been collected from DataStream and Nasdaq OMX.

Theoretically liquidity is seen as a risk factor, a cost of trade, and hence rational investors should demand a higher premium for these assets. Furthermore assets which returns are sensitive to changes in liquidity are expected to yield higher returns, due to the risk associated with these assets.

Even though the technical achievements have increased the ease of asset trading and hence lowered the illiquidity of assets, there are still studies which have found a significance of the liquidity and return effect (Amihud and Mendelson (1986), Chan and Faff (2005)). However the evidence is not clear cut, the authors Eleswarapu and Reinganum (1993) and Anderson, Clarkson and Moran (1997) finds a weaker relationship. Even though the empirical results in this thesis are ambiguous, and the fact that our test period and sample size are small, where no clear-cut evidence of premiums are shown the following tendencies have been observed.

In terms of return premium, the following premiums in basis points were observed per 100bp change in sensitivity.

- A liquidity premium, for the relative bid-ask spread, between 210-360bp.
- An illiquidity premium, for the turnover rate, between 72-75bp.
- A liquidity risk premium, for the relative bid-ask spread of 672-760bp. (Less)
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author
Persson, Pontus LU and Pavlica, Semir LU
supervisor
organization
course
BUSP69 20121
year
type
H2 - Master's Degree (Two Years)
subject
keywords
Liquidity and Illiquidity premiums, Fama MacBeth, Fama-French, Swedish stock exchange, CAPM.
language
English
id
3122619
date added to LUP
2012-10-01 12:20:55
date last changed
2012-10-01 12:20:55
@misc{3122619,
  abstract     = {The main purposes in this master´s thesis are to examine the effect of liquidity on stock returns but also measuring the return premium in relation to liquidity towards the Swedish stock exchange market. In order to test these relationships the Fama and MacBeth (1997) Cross-sectional methodology have been applied. The relationships are tested for two different types of liquidity, the turnover rate and the relative bid-ask spread. Robustness test for the findings have also been performed. The sample consists of Swedish companies listed on Nasdaq OMX, from the time period of 1995-2011 where the data have been collected from DataStream and Nasdaq OMX.

Theoretically liquidity is seen as a risk factor, a cost of trade, and hence rational investors should demand a higher premium for these assets. Furthermore assets which returns are sensitive to changes in liquidity are expected to yield higher returns, due to the risk associated with these assets.

Even though the technical achievements have increased the ease of asset trading and hence lowered the illiquidity of assets, there are still studies which have found a significance of the liquidity and return effect (Amihud and Mendelson (1986), Chan and Faff (2005)). However the evidence is not clear cut, the authors Eleswarapu and Reinganum (1993) and Anderson, Clarkson and Moran (1997) finds a weaker relationship. Even though the empirical results in this thesis are ambiguous, and the fact that our test period and sample size are small, where no clear-cut evidence of premiums are shown the following tendencies have been observed.

In terms of return premium, the following premiums in basis points were observed per 100bp change in sensitivity.

- A liquidity premium, for the relative bid-ask spread, between 210-360bp.
- An illiquidity premium, for the turnover rate, between 72-75bp.
- A liquidity risk premium, for the relative bid-ask spread of 672-760bp.},
  author       = {Persson, Pontus and Pavlica, Semir},
  keyword      = {Liquidity and Illiquidity premiums,Fama MacBeth,Fama-French,Swedish stock exchange,CAPM.},
  language     = {eng},
  note         = {Student Paper},
  title        = {Does more trade equal less return - Applied on the Swedish stock market},
  year         = {2012},
}