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Liquidity and expected stock returns :evidence from the Greater China stock markets

English Abstract

This study is to find out how the liquidity influences the expected stock returns in the Greater China stock markets, namely China, Hong Kong and Taiwan stock markets. We construct a new liquidity factor using asymptotic principal components analysis approach (PCA) of Connor and Korajczyk (1986) by combining four liquidity proxies of four dimensions of liquidity: trading quantity, trading cost, trading speed and price impact. We apply this new liquidity factor to well documented asset pricing models and build the liquidity-augmented multi-factor models and test the models with other well-documented asset pricing models. The result shows that liquidity is an important factor in pricing returns together with well-documented asset pricing factors (market premium, size effect, and value effect) in the Greater China stock markets. The results are valid on both time-series and cross-sectional tests and are robust to adding portfolio residuals, higher moments, monthly seasonality and conditional-market tests. We also compare the liquidity three/four-factor model (market premium, size effect, value effect and liquidity premium) with alternative models and find that the liquidity three/four-factor model can well explain the expected stock return in the Greater China markets.

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Zhang, Han Yun


Faculty of Business Administration




Stock exchanges -- China

Stocks -- Prices

Rate of return -- China

Banking and Finance -- Department of Finance and Business Economics


Lam, Siu Kwan

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