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Empirical tests on the liquidity-adjusted capital asset pricing model

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  • Vu, Van
  • Chai, Daniel
  • Do, Viet

Abstract

This study examines the effects of systematic liquidity risk on stock returns in the Australian market. We find that liquidity risk, in the form of (i) the co-movement between individual stock liquidity and market liquidity, (ii) the co-movement between stock returns and market liquidity, and (iii) the co-movement between stock liquidity and market returns, is priced individually and jointly in Australian equities. The results are robust to the use of alternative liquidity proxies and after controlling for other factors known to affect stock returns. The analysis across different market conditions shows that the net liquidity risk is approximately eight times higher in bearish markets than in bullish markets. Our overall results support the importance of liquidity risk in the generation of stock returns, particularly during market downturns.

Suggested Citation

  • Vu, Van & Chai, Daniel & Do, Viet, 2015. "Empirical tests on the liquidity-adjusted capital asset pricing model," Pacific-Basin Finance Journal, Elsevier, vol. 35(PA), pages 73-89.
    • Handle: RePEc:eee:pacfin:v:35:y:2015:i:pa:p:73-89
    DOI: 10.1016/j.pacfin.2014.10.007
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    2. Ayad Assoil & Ndéné Ka & Jules Sadefo-Kamdem, 2021. "Analysis of the dynamic relationship between liquidity proxies and returns on the French CAC 40 index," SN Business & Economics, Springer, vol. 1(10), pages 1-23, October.
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    4. Rapheedah Musneh & Mohd. Rahimie Abdul Karim & Caroline Geetha A/P Arokiadasan Baburaw, 2021. "Liquidity risk and stock returns: empirical evidence from industrial products and services sector in Bursa Malaysia," Future Business Journal, Springer, vol. 7(1), pages 1-10, December.
    5. Zalewska Justyna & Nehrebecka Natalia, 2019. "Liquidity and solvency of a company and the rate of return – an analysis of the Warsaw Stock Exchange," Central European Economic Journal, Sciendo, vol. 6(53), pages 199-220, January.
    6. Priyanka Naik & Y. V. Reddy, 2021. "Stock Market Liquidity: A Literature Review," SAGE Open, , vol. 11(1), pages 21582440209, January.
    7. Balachandran, Balasingham & Faff, Robert, 2015. "Corporate governance, firm value and risk: Past, present, and future," Pacific-Basin Finance Journal, Elsevier, vol. 35(PA), pages 1-12.
    8. Hsieh, Hui-Ching & Nguyen, Van Quoc Thinh, 2021. "Economic policy uncertainty and illiquidity return premium," The North American Journal of Economics and Finance, Elsevier, vol. 55(C).

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    More about this item

    Keywords

    Liquidity; Liquidity risk; Asset pricing; Asymmetric liquidity risk;
    All these keywords.

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G19 - Financial Economics - - General Financial Markets - - - Other

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