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Systematic liquidity risk and stock price reaction to shocks
Author(s) -
Mazouz Khelifa,
Alrabadi Dima W. H.,
Yin Shuxing
Publication year - 2012
Publication title -
accounting and finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.645
H-Index - 49
eISSN - 1467-629X
pISSN - 0810-5391
DOI - 10.1111/j.1467-629x.2011.00403.x
Subject(s) - market liquidity , economics , robustness (evolution) , monetary economics , econometrics , shock (circulatory) , stock (firearms) , liquidity risk , stock price , financial economics , systematic risk , biology , medicine , mechanical engineering , paleontology , biochemistry , series (stratigraphy) , gene , engineering
This study examines the relationship between systematic liquidity risk and stock price reaction to large 1‐day price changes (or shocks). We base our analysis on a yearly updated constituents list of the FTSE All share index. Our overall results are consistent with the price continuation hypothesis, which suggests that positive (negative) shocks will be followed by positive (negative) abnormal returns. However, further analysis indicates that stocks with low systematic liquidity risk react efficiently to both positive and negative shocks, whereas stocks with high systematic liquidity risk underreact to both positive and negative shocks. Our results are valid irrespective of various robustness tests such as size of the shock, size of the firm, month‐of‐the‐year and day‐of‐the‐week effects. We conclude that trading on price patterns following shocks may not be profitable, as it involves taking substantial liquidity exposure.