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Liquidity shocks and stock bubbles

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  • Nneji, Ogonna

Abstract

This study presents and empirically tests a simple framework that examines the effects of market liquidity (the ease with which stocks are traded) and funding liquidity (the ease with which market participants can obtain funding) on stock market bubbles. Three key findings emerge from this research. First, negative market and funding liquidity shocks increase the probability of stock market bubbles collapsing. Second, market liquidity has a more prevalent effect on stock bubbles than funding liquidity. Third, liquidity shocks provide warning signals of impending bubble collapses. A trading rule based on recursive forecasts from the aforementioned framework is used to illustrate the economic significance of the liquidity–bubble relationship.

Suggested Citation

  • Nneji, Ogonna, 2015. "Liquidity shocks and stock bubbles," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 35(C), pages 132-146.
    • Handle: RePEc:eee:intfin:v:35:y:2015:i:c:p:132-146
    DOI: 10.1016/j.intfin.2014.12.010
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    3. Andrea Barbon & Angelo Ranaldo, 2023. "NFT Bubbles," Papers 2303.06051, arXiv.org.
    4. Tang, Tao & Wang, Yanchen, 2022. "Liquidity Shocks, Price Volatilities, and Risk-managed Strategy: Evidence from Bitcoin and Beyond," Journal of Multinational Financial Management, Elsevier, vol. 64(C).
    5. Wei, Yigang & Li, Yan & Wang, Zhicheng, 2022. "Multiple price bubbles in global major emission trading schemes: Evidence from European Union, New Zealand, South Korea and China," Energy Economics, Elsevier, vol. 113(C).
    6. Radeef Chundakkadan & Subash Sasidharan, 2021. "Central bank's money market operations and daily stock returns," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 26(1), pages 136-152, January.
    7. Rangan Gupta & Jacobus Nel & Joshua Nielsen & Christian Pierdzioch, 2023. "Stock Market Volatility and Multi-Scale Positive and Negative Bubbles," Working Papers 202310, University of Pretoria, Department of Economics.
    8. Riza Demirer & Guilherme Demos & Rangan Gupta & Didier Sornette, 2019. "On the predictability of stock market bubbles: evidence from LPPLS confidence multi-scale indicators," Quantitative Finance, Taylor & Francis Journals, vol. 19(5), pages 843-858, May.

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    More about this item

    Keywords

    Funding liquidity; Market liquidity; Liquidity shocks; Speculative bubble; Trading;
    All these keywords.

    JEL classification:

    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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