Illiquidity contagion and pricing of commonality risk: Evidence from a dynamic conditional correlation model

Nardos Beyene, Peng Huang and C. Hueng

Finance Research Letters, 2021, vol. 39, issue C

Abstract: This paper investigates the pricing of the commonality in liquidity risk in the U.S. stock market by using a more comprehensive measure of market illiquidity cost that can reflect the liquidity condition of broader asset markets, and by forming portfolios in a way that is consistent with the definition of the commonality risk. Estimating a conditional version of the Liquidity-Adjusted Capital Asset Pricing Model by the Dynamic Conditional Correlation approach, we find a commonality risk premium that is higher than those derived from alternative measures. The premium is time varying, with values being higher during periods of market turmoil.

Keywords: Commonality risk premium; Illiquidity contagion; Liquidity-adjusted capital asset pricing model (search for similar items in EconPapers)
JEL-codes: G10 G11 G12 (search for similar items in EconPapers)
Date: 2021
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Persistent link: https://EconPapers.repec.org/RePEc:eee:finlet:v:39:y:2021:i:c:s1544612320302993

DOI: 10.1016/j.frl.2020.101571

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