Liquidity Characteristics of Market Anomalies and Institutional Trading

64 Pages Posted: 14 Dec 2020 Last revised: 26 May 2021

See all articles by Charles Cao

Charles Cao

Pennsylvania State University

Bing Liang

University of Massachusetts Amherst - Department of Finance

Tong Yao

University of Iowa - Henry B. Tippie College of Business

Andrew (Jianzhong) Zhang

University of Nevada, Las Vegas - Department of Finance

Date Written: December 31, 2020

Abstract

This study examines the liquidity characteristics of market anomalies and how liquidity affects institutional trading on those anomalies. We find that long-short portfolios based on market anomalies have pervasive liquidity exposures. For long-horizon anomalies, the long legs of the portfolios are less liquid and suffer from deteriorating liquidity relative to the short legs. Short-horizon anomaly portfolios exhibit the opposite pattern. Consistent with such liquidity characteristics and institutional liquidity preference, aggregate institutional trades appear to be in the right direction for short-horizon anomalies but in the wrong direction for long-horizon anomalies. Perverse institutional trading on long-horizon anomalies disappears after we control for liquidity. We further find that liquidity-driven and non-liquidity components of institutional trades have different impact on market mispricing. The magnitude of long-horizon anomalies is exacerbated by the liquidity-driven institutional trading when such trading is in the wrong direction, but not affected by the direction of the non-liquidity component of institutional trading.

Keywords: Institutional trading, market anomalies, liquidity characteristics, market efficiency

JEL Classification: G10, G14, G23

Suggested Citation

Cao, Charles and Liang, Bing and Yao, Tong and Zhang, Andrew (Jianzhong), Liquidity Characteristics of Market Anomalies and Institutional Trading (December 31, 2020). Available at SSRN: https://ssrn.com/abstract=3739219 or http://dx.doi.org/10.2139/ssrn.3739219

Charles Cao

Pennsylvania State University ( email )

Department of Finance
Smeal College of Business
University Park, PA 16802
United States
814-865-7891 (Phone)
814-865-3362 (Fax)

HOME PAGE: http://www.personal.psu.edu/qxc2/cao.html

Bing Liang

University of Massachusetts Amherst - Department of Finance ( email )

Amherst, MA 01003
United States

Tong Yao (Contact Author)

University of Iowa - Henry B. Tippie College of Business ( email )

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5020 Main Library
Iowa City, IA 52242-1000
United States

Andrew (Jianzhong) Zhang

University of Nevada, Las Vegas - Department of Finance ( email )

4505 S. Maryland Parkway
Box 456008
Las Vegas, NV 89154-6008
United States

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