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Do Hedge Funds Supply or Demand Liquidity?

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  • Petri Jylhä
  • Kalle Rinne
  • Matti Suominen

Abstract

Regressing hedge funds’ returns on returns to a long–short contrarian trading strategy, a measure of the returns from providing liquidity, we find that hedge funds typically supply liquidity in the stock market. In the cross-section, strict redemption restrictions and large fund size increase funds’ propensity to supply liquidity. In time series, poor market liquidity and good funding conditions increase funds’ propensity to supply liquidity. Although the hedge funds typically supply liquidity, during crises they demand liquidity. We also find that increases in the amount of speculative capital improve market liquidity and reduce the amount of short-term return reversals and volatility.

Suggested Citation

  • Petri Jylhä & Kalle Rinne & Matti Suominen, 2014. "Do Hedge Funds Supply or Demand Liquidity?," Review of Finance, European Finance Association, vol. 18(4), pages 1259-1298.
  • Handle: RePEc:oup:revfin:v:18:y:2014:i:4:p:1259-1298.
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    References listed on IDEAS

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    Cited by:

    1. Siegmann, Arjen & Stefanova, Denitsa, 2017. "The evolving beta-liquidity relationship of hedge funds," Journal of Empirical Finance, Elsevier, vol. 44(C), pages 286-303.
    2. Efe Cotelioglu & Francesco A. Franzoni & Alberto Plazzi, 2013. "What Constrains Liquidity Provision? Evidence From Hedge Fund Trades," Swiss Finance Institute Research Paper Series 13-10, Swiss Finance Institute.
    3. repec:eee:jfinec:v:131:y:2019:i:2:p:345-361 is not listed on IDEAS
    4. Hillert, Alexander & Maug, Ernst & Obernberger, Stefan, 2016. "Stock repurchases and liquidity," Journal of Financial Economics, Elsevier, vol. 119(1), pages 186-209.
    5. Kang, Namho & Kondor, Péter & Sadka, Ronnie, 2014. "Do Hedge Funds Reduce Idiosyncratic Risk?," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 49(4), pages 843-877, August.
    6. Arjen Siegmann & Denitsa Stefanova, 2011. "Market Liquidity and Exposure of Hedge Funds," Tinbergen Institute Discussion Papers 11-150/2/DSF27, Tinbergen Institute.
    7. Mathias S. Kruttli & Phillip J. Monin & Sumudu W. Watugala, 2017. "Investor Concentration, Flows, and Cash Holdings: Evidence from Hedge Funds," Working Papers 17-07, Office of Financial Research, US Department of the Treasury.
    8. repec:eee:empfin:v:44:y:2017:i:c:p:304-315 is not listed on IDEAS
    9. repec:eee:jfinec:v:132:y:2019:i:1:p:26-48 is not listed on IDEAS
    10. Kalle Rinne & Matti Suominen, 2014. "Mutual Funds’ Returns from Providing Liquidity and Costs of Immediacy," LSF Research Working Paper Series 14-01, Luxembourg School of Finance, University of Luxembourg.
    11. Joni Kokkonen & Matti Suominen, 2015. "Hedge Funds and Stock Market Efficiency," Management Science, INFORMS, vol. 61(12), pages 2890-2904, December.
    12. Kang, Namho & Kondor, Péter & Sadka, Ronnie, 2011. "Idiosyncratic Return Volatility in the Cross-Section of Stocks," CEPR Discussion Papers 8307, C.E.P.R. Discussion Papers.
    13. repec:eee:jfinec:v:131:y:2019:i:1:p:168-185 is not listed on IDEAS
    14. Mathias S. Kruttli & Phillip J. Monin & Sumudu W. Watugala, 2017. "Investor Concentration, Flows, and Cash Holdings : Evidence from Hedge Funds," Finance and Economics Discussion Series 2017-121, Board of Governors of the Federal Reserve System (US).
    15. repec:pal:assmgt:v:17:y:2016:i:6:d:10.1057_jam.2016.21 is not listed on IDEAS

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