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Stock Market Returns and Liquidity: Dynamic Relationships and Causality

Journal of Trading, 9(1), 34-40. January, 2014.

11 Pages Posted: 18 Nov 2012 Last revised: 25 Jan 2014

Vichet Sum

University of Maryland Eastern Shore - School of Business and Technology

Date Written: November 17, 2012

Abstract

This study examines the impulse response functions and causality test of stock market returns and market-wide liquidity as measured by share turnover (the total number of shares traded over a period divided by the average number of shares outstanding for the period). The analyses of the monthly data spanning from 1926 to 2011 of the NYSE share volume turnover and returns on the NYSE stock portfolios show that the returns on the NYSE value-weighted stock portfolio are immediately negative in the first month following the NYSE share turnover shock; however, the returns become positive after five months following the shock. The returns on the NYSE largest stock portfolio are negative for the first five months following the share turnover shock. There is a significant jump in the NYSE share turnover in the first month following the shock of the returns on the NYSE value-weighted and equal-weighted portfolios; this finding is consistent with the overconfidence theory. The causality test results indicate that stock returns and liquidity Granger cause each other. The results of this study offer important information and implications for investment and risk management.

Keywords: liquidity, liquidity shocks, share turnover, stock market returns

JEL Classification: G12, G14

Suggested Citation

Sum, Vichet, Stock Market Returns and Liquidity: Dynamic Relationships and Causality (November 17, 2012). Journal of Trading, 9(1), 34-40. January, 2014.. Available at SSRN: https://ssrn.com/abstract=2177332 or http://dx.doi.org/10.2139/ssrn.2177332

Vichet Sum (Contact Author)

University of Maryland Eastern Shore - School of Business and Technology ( email )

2105 Kiah Hall
Princess Anne, MD 21853
United States
410-651-6531 (Phone)
410-651-6529 (Fax)

HOME PAGE: http://www.umes.edu/bma/Sum.html

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