Abstract
This paper studies liquidity and volatility commonality in the Canadian stock market. We show that five various liquidity measures display strong evidence of commonality at both market-wide and industry specific levels. Our findings extend the results of previous studies in liquidity commonality, and show that even after controlling for individual determinants of liquidity such as price, volume, and volatility, liquidity commonality remains. In addition to demonstrating liquidity commonality, we also investigated the causal relationship between liquidity and volatility. Our evidence indicates that depth, proportional effective spread, and liquidity changes predict volatility changes for bid-ask spread, depth, and proportional effective spread.
Highlights
In May 2015, a group at TMX proposed to the participants of the Big Data Industrial Problem Solving Workshop to investigate any commonality and causal relationships between liquidity and volatility of the assets that are traded in the Canadian markets
Variation in liquidity is known to depend on individual stock attributes such as trading volume and price level, but covariation amongst liquidity measures in the Canadian market is at present, unknown
Commonality and individual determinants of liquidity To complete our analysis of commonality of liquidity measures, we examine how individual trading volume, volatility, and price are influential in determining volatility
Summary
In May 2015, a group at TMX proposed to the participants of the Big Data Industrial Problem Solving Workshop to investigate any commonality and causal relationships between liquidity and volatility of the assets that are traded in the Canadian markets. This workshop was followed by a six-month NSERC Engage project, with a description of the results of project described . It has long been known that liquidity and volatility are correlated components of the market, affecting each other in a multitude of different ways. Beyond traditional correlation analysis between liquidity and volatility, the question of the causal relationship between liquidity changes and volatility changes remains open to debate
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