We introduce a novel two-factor model, incorporating market and liquidity factors, which outperforms the CAPM and Fama–French factor models when applied to stock market returns in Shanghai and Shenzhen over 2000–2019. We compute the liquidity factor as the return on a liquidity-mimicking portfolio, which we construct simultaneously using two measures of liquidity (one of them capturing liquidity’s trading-quantity dimension, and the other associated with its price-impact dimension). Unlike the CAPM and Fama–French factor models, the advocated two-factor model is able to account for numerous return anomalies, such as size, book-to-market ratio, earnings-to-price ratio, cash-flow-to-price ratio, return-on-equity, and volatility. The model’s performance is similar when applied separately to the Shanghai and Shenzhen stock markets. Furthermore, it fares similarly over the 1994–2004 and 2005–2019 sub-periods. This result is somewhat surprising, because liquidity seems likely to have been substantially lower over 1994–2004, as the Chinese markets were noticeably smaller, and the critical market reform aimed at eliminating non-tradable shares by the end of 2006 did not occur until 2005.