Stock extreme illiquidity and the cost of capital

We examine the relationship between stock extreme illiquidity and the implied cost of capital for firms from 45 countries. We document robust evidence that firms whose stocks have a greater potential for extreme illiquidity realizations suffer from higher cost of capital. A one standard deviation increase in a stock's liquidity tail index leads to a rise of 30 basis points in the cost of equity. The reported evidence for stock extreme illiquidity is independent of the systematic extreme liquidity risk and extends to alternative cost-percent liquidity proxies. We further find that this relation is stronger in periods of down markets and high volatility and is weaker in environments with better information quality and stronger investor protection.