Liquidity risk and the performance of UK mutual funds ¬リニ

a r t i c l e i n f o We examine the role of liquidity risk, both as a stock characteristic as well as systematic liquidity risk, in UK mutual fund performance for the first time. We find that on average UK mutual funds are tilted towards liquid stocks (except for small stock funds as might be expected) but that, counter-intuitively, liquidity rather than illiquidity, as a stock characteristic is positively priced in the cross-section of fund performance. We find that systematic liquidity risk is positively priced in the cross-section of fund performance although controlling for momentum effects weakens the robustness of this finding somewhat. Overall, our results reveal a strong role for stock liquidity level and systematic liquidity risk in fund performance evaluation models. During the recent financial crisis fund managers witnessed a severe drop in liquidity across global financial markets. This led to a large increase in trading costs and greater price impact and has heightened awareness of the importance of liquidity risk. We examine the role of liquidity risk in mutual fund performance in the UK. The pricing of liquidity risk has attracted some attention in US studies but almost no work has been done on the UK market. The US and UK operate under different market structures. Unlike the US where trading is fragmented, in the UK all trading takes place on a single exchange. In the US, trading on Nasdaq is order book driven while the NYSE has a hybrid system whereas in the UK, London Stock Exchange (LSE) trading is a mix of order book driven (the Stock Exchange Electronic Trading Service (SETS)) and a hybrid quote/order book driven system (SETSmm). The differing market structures of UK and US exchanges lead to large differences in liquidity characteristics (Huang & Stoll, 2001). Liquidity may be priced in two ways. Liquidity as a priced characteristic considers a stock's own liquidity as a determinant of its return. Amihud and Mendelson (1986) argue that illiquid stocks should earn a premium over liquid stocks to compensate investors for the trading costs incurred which reduce realisable returns, e.g., wider bid–offer spreads. Liquidity as a risk factor refers to systematic liquidity risk, i.e., the sensitivity of returns to changes in market liquidity that may not be diversifiable. A number of papers demonstrate commonality in liquidity across stocks evidence of a premium for this systematic liquidity risk. There is also …