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The risk components of liquidity

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Author Info
Lorán Chollete (Norwegian School of Economics and Business (NHH) and Norges Bank (Central Bank of Norway))
Randi Næs (Norges Bank (Central Bank of Norway))
Johannes A. Skjeltorp () (Norges Bank (Central Bank of Norway))

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Abstract

Does liquidity risk differ depending on our choice of liquidity proxy? Unlike literature that considers common liquidity variation, we focus on identifying different components of liquidity, statistically and economically, using more than a decade of US transaction data. We identify three main statistical liquidity factors which are utilized in a linear asset pricing framework. We motivate a correspondence of the statistical factors to traditional dimensions of liquidity as well as the notion of order and trade based liquidity measures. We find evidence of multiple liquidity risk premia, but only a subset of the financial liquidity factors are associated with significant risk premia. These are the factors that we relate to the dimensions of immediacy and resilliency, while the depth dimension does not command a risk premium in any of the models. Our results suggests caution when choosing liquidity variables in asset pricing applications, since liquidity premia may be reflected in only some dimensions of liquidity.

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Publisher Info
Paper provided by Norges Bank in its series Working Paper with number 2008/03.

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Length: 28 pages
Date of creation: 11 Mar 2008
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Handle: RePEc:bno:worpap:2008_03

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Related research
Keywords: Liquidity risk Liquidity factors Asset pricing Market microstructure

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Find related papers by JEL classification:
G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies

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  1. Clark, Peter K, 1973. "A Subordinated Stochastic Process Model with Finite Variance for Speculative Prices," Econometrica, Econometric Society, vol. 41(1), pages 135-55, January. [Downloadable!] (restricted)
  2. Fama, Eugene F. & French, Kenneth R., 1993. "Common risk factors in the returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 33(1), pages 3-56, February. [Downloadable!] (restricted)
  3. Jones, Charles M & Kaul, Gautam & Lipson, Marc L, 1994. "Transactions, Volume, and Volatility," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 7(4), pages 631-51. [Downloadable!] (restricted)
  4. Aitken, Michael & Comerton-Forde, Carole, 2003. "How should liquidity be measured?," Pacific-Basin Finance Journal, Elsevier, vol. 11(1), pages 45-59, January. [Downloadable!] (restricted)
  5. Amihud, Yakov & Mendelson, Haim, 1986. "Asset pricing and the bid-ask spread," Journal of Financial Economics, Elsevier, vol. 17(2), pages 223-249, December. [Downloadable!] (restricted)
  6. Acharya, Viral V. & Pedersen, Lasse Heje, 2005. "Asset pricing with liquidity risk," Journal of Financial Economics, Elsevier, vol. 77(2), pages 375-410, August. [Downloadable!] (restricted)
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  7. Korajczyk, Robert A. & Sadka, Ronnie, 2008. "Pricing the commonality across alternative measures of liquidity," Journal of Financial Economics, Elsevier, vol. 87(1), pages 45-72, January. [Downloadable!] (restricted)
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This page was last updated on 2008-12-17.

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