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Illiquidity and Stock Returns: A Revisit

Last Updated on 10 February, 2024 by Rejaul Karim

In “Illiquidity and Stock Returns: A Revisit,” Yakov Amihud offers an insightful extension and exploration of his seminal work from 2002. Central to this reexamination is the introduction of IML, a return factor capturing the contrast between illiquid and liquid stocks, thereby providing a time series of the illiquidity premium.

The paper unveils a noteworthy refinement, demonstrating a shift in the risk-adjusted expected return on IML in the post-2002 period while still maintaining statistical significance.

Moreover, IML is shown to exhibit the anticipated response to market illiquidity shocks, exposing its value as a predictive indicator. In essence, this revisit not only enhances our understanding of liquidity pricing but also underscores the enduring relevance of illiquidity dynamics in shaping stock returns.

Abstract Of Paper

This paper explains and extends my 2002 paper. It presents a return factor of illiquid-minus-liquid stocks, called IML, which provides a time series of the illiquidity premium. The risk-adjusted predicted return on IML is lower in the period that follows my 2002 paper but it is still significant. IML also has the predicted response to market illiquidity shocks.

Original paper – Download PDF

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Author

Yakov Amihud
New York University – Stern School of Business

Conclusion

In conclusion, “Illiquidity and Stock Returns: A Revisit” by Yakov Amihud offers a meaningful extension of his prior work, unveiling the introduction of IML as a pivotal return factor capturing the contrast between illiquid and liquid stocks.

The discernible evolution in the risk-adjusted expected return on IML following the 2002 paper, while remaining statistically significant, highlights the dynamic nature of liquidity dynamics in the stock market.

Notably, the paper reaffirms IML’s anticipated responsiveness to market illiquidity shocks, underscoring its role as a valuable predictive indicator. This revisit not only deepens our comprehension of liquidity pricing but also underscores the enduring relevance of illiquidity dynamics in shaping stock returns, presenting an invaluable contribution to the ongoing discourse on liquidity and its impact on stock returns.

Related Reading:

Liquidity as an Investment Style

Alpha Momentum and Price Momentum

FAQ

What is the main focus of the paper “Illiquidity and Stock Returns: A Revisit” by Yakov Amihud?

The main focus of the paper is to explain and extend Yakov Amihud’s seminal work from 2002 on illiquidity and stock returns. The paper introduces a return factor called IML, which captures the contrast between illiquid and liquid stocks. The primary objective is to provide a time series of the illiquidity premium and explore its dynamics in the post-2002 period.

What is IML, and how does it contribute to the understanding of illiquidity?

IML is a return factor representing the difference between the returns of illiquid and liquid stocks. It contributes to the understanding of illiquidity by providing a time series of the illiquidity premium. Essentially, IML allows for the measurement and analysis of the risk-adjusted expected return associated with the contrast between illiquid and liquid stocks, offering insights into the dynamics of liquidity pricing.

What does the paper reveal about the risk-adjusted expected return on IML in the post-2002 period?

The paper reveals a refinement in the risk-adjusted expected return on IML in the period following the 2002 paper by Yakov Amihud. Despite this shift, the risk-adjusted expected return on IML remains statistically significant. The analysis suggests that the dynamics of liquidity and the illiquidity premium have evolved over time, emphasizing the importance of reassessing and updating models to capture these changes.

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