Uncertainty, Market Structure, and Liquidity
58 Pages Posted: 6 Dec 2013 Last revised: 16 May 2014
Date Written: December 9, 2013
In this study we show that market uncertainty [measured by the Chicago Board Options Exchange Market Volatility Index (VIX)] exerts a large market-wide impact on liquidity, which gives rise to co-movements in individual asset liquidity. The effect of VIX on stock liquidity is greater than the combined effects of all other common determinants of stock liquidity. We show that the uncertainty elasticity of liquidity (UEL: percent change in liquidity given a 1% change in VIX) has increased around regulatory changes in the US markets that increased the role of public traders in liquidity provision, reduced the minimum allowable price variation, weakened the affirmative obligation of NASDAQ dealers, and abolished the specialist system on the NYSE.
Keywords: Liquidity commonality, VIX, Volatility, Market makers, Uncertainty, Bid-ask spread, Market structure
JEL Classification: G01; G14; G18
Suggested Citation: Suggested Citation