Does liquidity drive stock market returns? the role of investor risk aversion
In this paper, we explore the relations between liquidity, stock returns, and investor risk aversion as captured by the variance risk premium (VRP). This is motivated by theoretical and empirical evidence in the literature which suggests that investor risk aversion negatively correlates with asset l...
| Main Authors: | , , , |
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| Format: | Article |
| Language: | English |
| Published: |
2021
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| Online Access: | https://eprints.nottingham.ac.uk/65412/ |
| _version_ | 1848800225165049856 |
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| author | Zhang, Qingjing Choudhry, Taufiq Kuo, Jing-Ming Liu, Xiaoquan |
| author_facet | Zhang, Qingjing Choudhry, Taufiq Kuo, Jing-Ming Liu, Xiaoquan |
| author_sort | Zhang, Qingjing |
| building | Nottingham Research Data Repository |
| collection | Online Access |
| description | In this paper, we explore the relations between liquidity, stock returns, and investor risk aversion as captured by the variance risk premium (VRP). This is motivated by theoretical and empirical evidence in the literature which suggests that investor risk aversion negatively correlates with asset liquidity, and ample empirical evidence documenting liquidity risk premium. We use monthly US data from January 1999 to December 2018 and show that innovations in the VRP Granger-cause stock returns, which in turn drive liquidity. Our findings are consistent with predictions of prior theories and highlight the predictability of the VRP. They also contribute to the on-going debate on the causal relation between stock returns and liquidity. Finally, we explore the channels through which the VRP impacts liquidity and find that the VRP influences market and momentum factors, and that movements in these factors lead to changes in liquidity. © 2021, The Author(s), under exclusive licence to Springer Science+Business Media, LLC, part of Springer Nature. |
| first_indexed | 2025-11-14T20:48:10Z |
| format | Article |
| id | nottingham-65412 |
| institution | University of Nottingham Malaysia Campus |
| institution_category | Local University |
| language | English |
| last_indexed | 2025-11-14T20:48:10Z |
| publishDate | 2021 |
| recordtype | eprints |
| repository_type | Digital Repository |
| spelling | nottingham-654122021-06-04T07:09:36Z https://eprints.nottingham.ac.uk/65412/ Does liquidity drive stock market returns? the role of investor risk aversion Zhang, Qingjing Choudhry, Taufiq Kuo, Jing-Ming Liu, Xiaoquan In this paper, we explore the relations between liquidity, stock returns, and investor risk aversion as captured by the variance risk premium (VRP). This is motivated by theoretical and empirical evidence in the literature which suggests that investor risk aversion negatively correlates with asset liquidity, and ample empirical evidence documenting liquidity risk premium. We use monthly US data from January 1999 to December 2018 and show that innovations in the VRP Granger-cause stock returns, which in turn drive liquidity. Our findings are consistent with predictions of prior theories and highlight the predictability of the VRP. They also contribute to the on-going debate on the causal relation between stock returns and liquidity. Finally, we explore the channels through which the VRP impacts liquidity and find that the VRP influences market and momentum factors, and that movements in these factors lead to changes in liquidity. © 2021, The Author(s), under exclusive licence to Springer Science+Business Media, LLC, part of Springer Nature. 2021-03-06 Article PeerReviewed application/pdf en cc_by https://eprints.nottingham.ac.uk/65412/1/Combine5.pdf Zhang, Qingjing, Choudhry, Taufiq, Kuo, Jing-Ming and Liu, Xiaoquan (2021) Does liquidity drive stock market returns? the role of investor risk aversion. Review of Quantitative Finance and Accounting . ISSN 0924-865X Investor risk aversion; Liquidity; Systematic factors; Toda-Yamamoto Granger non-causality test http://dx.doi.org/10.1007/s11156-021-00966-5 doi:10.1007/s11156-021-00966-5 doi:10.1007/s11156-021-00966-5 |
| spellingShingle | Investor risk aversion; Liquidity; Systematic factors; Toda-Yamamoto Granger non-causality test Zhang, Qingjing Choudhry, Taufiq Kuo, Jing-Ming Liu, Xiaoquan Does liquidity drive stock market returns? the role of investor risk aversion |
| title | Does liquidity drive stock market returns? the role of investor risk aversion |
| title_full | Does liquidity drive stock market returns? the role of investor risk aversion |
| title_fullStr | Does liquidity drive stock market returns? the role of investor risk aversion |
| title_full_unstemmed | Does liquidity drive stock market returns? the role of investor risk aversion |
| title_short | Does liquidity drive stock market returns? the role of investor risk aversion |
| title_sort | does liquidity drive stock market returns? the role of investor risk aversion |
| topic | Investor risk aversion; Liquidity; Systematic factors; Toda-Yamamoto Granger non-causality test |
| url | https://eprints.nottingham.ac.uk/65412/ https://eprints.nottingham.ac.uk/65412/ https://eprints.nottingham.ac.uk/65412/ |