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Examining the dynamics of illiquidity risks within the phases of the business cycle

Author

Listed:
  • François-Éric Racicot

    (University of Ottawa [Ottawa])

  • William Rentz

    (University of Ottawa [Ottawa])

  • Alfred Kahl

    (University of Ottawa [Ottawa])

  • Olivier Mesly

    (ICN Business School)

Abstract

The Fama-French (FF) five-factor model is cast into a dynamic setting to capture the impact of illiquidity over the phases of the business cycle on the returns of the passive FF twelve sector portfolios. We use two dynamic approaches, Kalman filtering and a recursive/rolling robust instrumental variables (IV) algorithm cast into a GMM framework, to determine time-varying alpha and beta estimates. Our principal result is that the Kalman filter approach supports the hypothesis that illiquidity is an important risk factor in a dynamic context. However, the only factor found to matter in the dynamic GMM approach is the market risk premium. Nevertheless, illiquidity may be prescient with respect to financial crises.

Suggested Citation

  • François-Éric Racicot & William Rentz & Alfred Kahl & Olivier Mesly, 2018. "Examining the dynamics of illiquidity risks within the phases of the business cycle," Post-Print hal-02014700, HAL.
    • Handle: RePEc:hal:journl:hal-02014700
    DOI: 10.1016/j.bir.2018.12.001
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    Cited by:

    1. Javier Rojo-Suárez & Ana Belén Alonso-Conde, 2020. "Impact of consumer confidence on the expected returns of the Tokyo Stock Exchange: A comparative analysis of consumption and production-based asset pricing models," PLOS ONE, Public Library of Science, vol. 15(11), pages 1-31, November.
    2. Ziyang Ji & Victor Chang & Hao Lan & Ching-Hsien Robert Hsu & Raul Valverde, 2020. "Empirical Research on the Fama-French Three-Factor Model and a Sentiment-Related Four-Factor Model in the Chinese Blockchain Industry," Sustainability, MDPI, vol. 12(12), pages 1-22, June.

    More about this item

    Keywords

    Illiquidity; Fama-French five-factor model; Kalman filter; Robust IV algorithm;
    All these keywords.

    JEL classification:

    • 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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