Funding Risk, Market Liquidity, Market Volatility and the Cross-Section of Asset Returns
55 Pages Posted: 30 Jan 2015 Last revised: 29 Oct 2016
Date Written: October 1, 2016
We find strong evidence of a funding risk premium in the cross-section of asset returns. Our estimate for the price of funding risk is robust across Treasury bonds, corporate bonds, equities, and hedge funds. Funding shocks pose a risk to investors because they exacerbate the illiquidity and volatility of securities, increase the dispersions of asset illiquidity and volatility, and decrease contemporaneous returns. Our price-of-risk estimates are also robust to using mimicking portfolio returns, alternative portfolio sorts, traditional test assets, monthly returns or quarterly returns. Funding shocks are not subsumed by common proxies for market-wide illiquidity or dealers' balance sheet risk.
Keywords: Funding risk, Stock returns, Limits to arbitrage, Market liquidity, Volatility
JEL Classification: E43, H12
Suggested Citation: Suggested Citation