Liquidity Adjustment in Multivariate Volatility Modeling: Evidence from Portfolios of Cryptocurrencies and US Stocks

Qi Deng

Papers from arXiv.org

Abstract: We develop a liquidity-sensitive multivariate volatility framework to improve the estimation of time-varying covariance structures under market frictions. We introduce two novel portfolio-level liquidity measures, liquidity jump and liquidity diffusion, which capture magnitude and volatility of liquidity fluctuation, respectively, and construct liquidity-adjusted return and volatility that reflect real-time liquidity variability. These liquidity-adjusted inputs are integrated into a VECM-DCC/ADCC-Bayesian model, allowing for conditional and posterior covariance estimation under liquidity stress. Applying this framework to portfolios of cryptocurrencies and US stocks, we find that traditional models misrepresent volatility and co-movement, while liquidity-adjusted models yield more stable and interpretable risk structures, particularly for portfolios of cryptocurrencies. The findings support the use of liquidity-adjusted multivariate models as statistically grounded tools for assessing the propagation of portfolio risk under market frictions, with implications for asset pricing, market microstructure design, and portfolio management.

Date: 2024-03, Revised 2025-04
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
http://arxiv.org/pdf/2407.00813 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:2407.00813

Access Statistics for this paper

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