Abstract
Employment growth (EG) is likely related to liquidity fundamentals of investment opportunities, firm health, and information environment. This, in turn, implies that liquidity risk may play a role in explaining the relation between employment growth and stock returns. We explain the link between employment growth and liquidity risk with a parsimonious model and find strong empirical evidence supporting our conjecture. Stocks of high-EG firms are more liquid and exposed to lower liquidity risk than stocks of low-EG firms. After adjusting for liquidity risk, employment growth loses its power to predict returns.
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