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Liquidity Premium and ConsumptionWenjin KangNational University of Singapore (NUS) - Department of Accounting Nan LiDepartment of Finance, NUS Business School, National University of Singapore January 9, 2011 Fifth Singapore International Conference on Finance 2011 Abstract: This paper studies the relationship between the liquidity premium and risk exposure to the shocks that influence consumption in the long run. We find illiquid stocks do not provide good hedge against the consumption fluctuation and have higher risk exposure to the consumption shock. The observed liquidity premium can be explained by the difference between such long-run risk exposure of liquid and illiquid stocks. The model implied liquidity premium increases with the risk aversion of investors and is insensitive to the specification of intertemporal substitution.
Number of Pages in PDF File: 36 Keywords: Liquidity Premium, Long-Run Risk, Consumption-Based Asset Pricing Model JEL Classification: G12, working papers seriesDate posted: January 9, 2011Suggested CitationContact Information
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