Uncertainty Elasticity of Liquidity and Expected Stock Returns in China

46 Pages Posted: 11 Jan 2015

See all articles by Ping-Wen Sun

Ping-Wen Sun

Minjiang University - Newhuadu Business School

Bin Yu

Jiangxi University of Finance and Economics

Date Written: January 10, 2015

Abstract

We examine the uncertainty elasticity of liquidity (UEL: percentage change in the individual stock’s liquidity given percentage change in the market volatility) and its influences on expected stock returns in the Chinese stock market from 2002 to 2014. We find that stocks of firms with lower share price, smaller market capitalization, higher book to market ratio, higher past year return, higher illiquidity ratio, higher non-tradable percentage, and fewer analysts following have higher UEL. The factor model analysis shows that the highest UEL decile portfolio monthly earns 0.36% more than the lowest UEL decile portfolio and have higher factor loadings on SMB, RMW, and CMA of the Fama and French five factor model. Furthermore, firm-level analysis shows that UEL does not have additional explanation power on expected stock returns after controlling for the liquidity risk. Finally, on average, stocks’ UEL is higher when the stock market return is lower.

Keywords: uncertainty, liquidity, liquidity risk, stock returns, volatility, China

JEL Classification: G12, G14

Suggested Citation

Sun, Ping-Wen and Yu, Bin, Uncertainty Elasticity of Liquidity and Expected Stock Returns in China (January 10, 2015). Available at SSRN: https://ssrn.com/abstract=2547900 or http://dx.doi.org/10.2139/ssrn.2547900

Ping-Wen Sun (Contact Author)

Minjiang University - Newhuadu Business School ( email )

Fujian
China

Bin Yu

Jiangxi University of Finance and Economics ( email )

South Lushan Road
Nanchang, Jiangxi 330013
China

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