Abstract
The objective of this research is to investigate the relationship between illiquidity and stock prices on the Tunisian stock exchange. While previous researches tended to focus on one form of illiquidity to examine this relationship, our study unifies three forms of illiquidity at the same time. Indeed, we simultaneously consider illiquidity as systematic risk, as a characteristic of the market, and as a characteristic of the stock. The aggregate illiquidity of the market is the average of individual stock illiquidity. The illiquidity risk is the sensitivity of the stock price to illiquidity shocks. Shocks of market illiquidity are estimated by the innovations in the expected market illiquidity. Results show that investors on the Tunisian stock exchange do not require higher returns when they expect a rise of market illiquidity, whereas investors on U.S markets are compensated for higher expected market illiquidity. In addition, shocks of market illiquidity provoke a fall in stock prices of small caps, while large caps are not sensitive to market illiquidity shocks. This differs slightly from results based on U.S. data where illiquidity shocks reduce all stock prices but most notably those of small caps. Robustness tests validate our findings. Our results are consistent with previous studies which reported that the “zero-return” ratio predicts significantly the return-illiquidity relationship on emerging markets.
Highlights
Further research has revealed the systematic component in the time-series of illiquidity measures across stocks (Chordia et al, 2000; Hasbrouck and Seppi, 2001; Huberman and Halka, 2001; Brockman et al, 2009; Tissaoui et al, 2015)
The effect of unexpected market illiquidity on small-cap portfolio returns remains negative and significant, except for smallcap portfolios when the stock returns are weighted by trading volume
While the majority of previous studies on illiquidity focused on U.S markets, our study investigates illiquidity in an emerging market that often suffers from a lack of liquidity
Summary
Further research has revealed the systematic component in the time-series of illiquidity measures across stocks (Chordia et al, 2000; Hasbrouck and Seppi, 2001; Huberman and Halka, 2001; Brockman et al, 2009; Tissaoui et al, 2015). The existence of illiquidity commonalities suggests that stock returns may be related to the market-wide illiquidity. Amihud (2002) proved that stock excess return is increasing in the expected illiquidity of the stock market. The expected stock excess return includes compensation for expected market illiquidity. He finds that market-wide illiquidity strongly fluctuates over time. Focusing on fluctuations of market illiquidity that investors cannot expect, market illiquidity can be viewed as an important systematic risk factor
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