Transaction Costs, Trading Volume, and the Liquidity Premium

Stefan Gerhold, Paolo Guasoni, Johannes Muhle-Karbe and Walter Schachermayer

Papers from arXiv.org

Abstract: In a market with one safe and one risky asset, an investor with a long horizon, constant investment opportunities, and constant relative risk aversion trades with small proportional transaction costs. We derive explicit formulas for the optimal investment policy, its implied welfare, liquidity premium, and trading volume. At the first order, the liquidity premium equals the spread, times share turnover, times a universal constant. Results are robust to consumption and finite horizons. We exploit the equivalence of the transaction cost market to another frictionless market, with a shadow risky asset, in which investment opportunities are stochastic. The shadow price is also found explicitly.

Date: 2011-08, Revised 2013-01
New Economics Papers: this item is included in nep-mst
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (8)

Downloads: (external link)
http://arxiv.org/pdf/1108.1167 Latest version (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:1108.1167

Access Statistics for this paper

More papers in Papers from arXiv.org
Bibliographic data for series maintained by arXiv administrators ().