A Century of Stock Market Liquidity and Trading Costs

48 Pages Posted: 13 Sep 2002

Date Written: May 23, 2002

Abstract

I assemble an annual time series of bid-ask spreads on Dow Jones stocks from 1900-2000, along with an annual estimate of the weighted-average commission rate for trading NYSE stocks since 1925. Spreads are cyclical, especially during periods of market turmoil. The sum of half-spreads and one-way commissions, multiplied by annual turnover, is an estimate of the annual proportional cost of aggregate equity trading. This cost drives a wedge between aggregate gross equity returns and net equity returns. This wedge can account for only a small part of the observed equity premium, but all else equal the gross equity premium is perhaps 1% lower today than it was early in the 1900's. Finally, I present evidence that the transaction cost measures that also proxy for liquidity - spreads and turnover - predict stock returns one year or more ahead. High spreads predict high stock returns; high turnover predicts low stock returns. These liquidity variables dominate traditional predictor variables, such as the dividend yield. The evidence suggests that time-series variation in aggregate liquidity is an important determinant of conditional expected stock market returns.

Keywords: transaction costs, bid-ask spreads, time-varying expected returns, return predictability, systematic liquidity

JEL Classification: G12, G14, N21, N22

Suggested Citation

Jones, Charles M., A Century of Stock Market Liquidity and Trading Costs (May 23, 2002). Available at SSRN: https://ssrn.com/abstract=313681 or http://dx.doi.org/10.2139/ssrn.313681

Charles M. Jones (Contact Author)

Columbia University ( email )

3022 Broadway
New York, NY 10027
United States

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
5,352
Abstract Views
24,156
Rank
2,963
PlumX Metrics