Liquidity and expected returns¬タヤEvidence from 1926¬タモ2008

a r t i c l e i n f o This paper reexamines the liquidity effect on stock expected returns in the NYSE over the period 1926–2008, the pre-1963 period, for which there is a lack of research, and the post-1963 period. The results from the entire sample of 1926–2008 show that expected returns increase with the stock level illiquidity. However, illiquidity level has explanatory power in the cross-sectional variation of stock expected returns only over the post-1963 period, and is, both economically and statistically, insignificant for the whole sample and the pre-1963 period. These findings are robust after taking into account various characteristics such as size and risk controls. On the other hand, evidence from the entire sample and the pre-1963 sample suggests that the systematic liquidity risk plays a significant role in the cross-sectional variation of stock expected returns. The different result for the pre-and post-1963 is explained by the portfolio shifts occurred during the economic downturns. Liquidity is important in many financial markets for both investors and policy makers, and a large and growing body of work has considered identifying the liquidity cost and its impact on asset pricing. These studies use different proxies for liquidity, and most of them report a significant positive association between illiquidity level, as a stock characteristic, and stock expected returns (e. A major problem in investigating the role of liquidity in asset prices is that, while it has been suggested to use long time-series in asset pricing studies, 1 the intra-day data that enable the estimation of liquidity from the actual sequences of trades and quotes are not available prior to 1983 (in the US markets). Even the data related to the common low-frequency measures (such as quoted spreads) are not available prior to 1963. Therefore, current literature in liquidity-asset pricing concentrates mostly on the post-1963 period. This paper adopts a recently developed low-frequency measure for liquidity and investigates a premium for the liquidity level (as a stock characteristic) by extending the sample to include pre-1963 data. More particularly, we investigate the role of liquidity in explaining cross-sectional variation of stock expected returns for stocks listed on the NYSE over the 1926–2008 and pre-1963 periods, for which there is a lack of research, as well as the post-1963 period. Our liquidity measure is Effective Tick4 (henceforth EFFT), developed by Holden (2009), which is computed from daily data and intended to …