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The Time Variation of Liquidity Risk in US Stock Markets

Michael Ludwig ()
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Michael Ludwig: University of Augsburg, FIM Research Center, Universitätsstraße 12, 86135 Augsburg

Credit and Capital Markets, 2018, vol. 51, issue 2, 205–225

Abstract: The influence of liquidity costs and liquidity risk on asset returns has been proven by several empirical studies. This paper analyzes the conditional version of the liquidity-adjusted capital asset pricing model and shows that betas significantly vary over different economic regimes and that liquid portfolios provide diversification benefits compared with illiquid portfolios. The results support the effects of a flight-to-liquidity. The time variation of liquidity betas induces additional risk for investors, which has important implications for investment decisions and asset allocation.

Keywords: CAPM; liquidity risk; regime switching model; time variation; liquidity betas (search for similar items in EconPapers)
JEL-codes: G11 G12 (search for similar items in EconPapers)
Date: 2018
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Handle: RePEc:kuk:journl:v:51:y:2018:i:2:p:205-225