Noise as Information for Illiquidity

Xing Hu, Jun Pan and Jiang Wang

No 16468, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: We propose a broad measure of liquidity for the overall financial market by exploiting its connection with the amount of arbitrage capital in the market and the potential impact on price deviations in US Treasurys. When arbitrage capital is abundant, we expect the arbitrage forces to smooth out the Treasury yield curve and keep the dispersion low. During market crises, the shortage of arbitrage capital leaves the yields to move more freely relative to the curve, resulting in more "noise.'' As such, noise in the Treasury market can be informative and we expect this information about liquidity to reflect the broad market conditions because of the central importance of the Treasury market and its low intrinsic noise -- high liquidity and low credit risk. Indeed, we find that our "noise'' measure captures episodes of liquidity crises of different origins and magnitudes and is also related to other known liquidity proxies. Moreover, using it as a priced risk factor helps explain cross-sectional returns on hedge funds and currency carry trades, both known to be sensitive to the general liquidity conditions of the market.

JEL-codes: G0 (search for similar items in EconPapers)
Date: 2010-10
Note: AP
References: Add references at CitEc
Citations: View citations in EconPapers (12)

Published as “Noise as Information for Illiquidi ty,” (with Xing Hu and Jiang Wang), Journal of Finance , volume 68, pages 2223-2772, 2013.

Downloads: (external link)
http://www.nber.org/papers/w16468.pdf (application/pdf)

Related works:
Journal Article: Noise as Information for Illiquidity (2013)
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:nbr:nberwo:16468

Ordering information: This working paper can be ordered from
http://www.nber.org/papers/w16468

Access Statistics for this paper

More papers in NBER Working Papers from National Bureau of Economic Research, Inc National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.. Contact information at EDIRC.
Bibliographic data for series maintained by ().