A Study on the Determinants of Individual Stock Liquidity in the Liquidity Dry-up Period: The Case of the Korean Stock Market

Yang, Cheol Won

Korean Journal of Financial Studies 2011;40(4):673-712.
Published online September 30, 2011.

Cheol Won Yang

유동성 고갈 기간 개별주식 유동성의 결정요인

양철원

Abstract

This paper investigates what can explain the liquidity decline of individual stocks in the liquidity dry-up period such as financial crisis. I regress the percentage changes of the percentage quoted spreads on the explanatory variables related to inventory cost and information asymmetry cost, and the firm characteristic variables such as size, book-to-market ratio, leverage ratio, cash flow to debt ratio, and ROA. At first, I run the cross-sectional regression using the variables of the liquidity dry-up periods. Next I perform the pooling regression using the variables of all sample period, in which the interaction terms with dummy variables in the liquidity dry-up periods are introduced. The empirical results are as following. First, the stock return and volatility related to the inventory cost (portfolio management cost) have significant correlations with the liquidity changes in all empirical analyses. It is because that the selling pressure of an individual stock becomes extremely stronger than the buying demand as stock return declines and volatility increases. When stock return decreases, the performance of portfolio including the stock also declines and then investors move to sell the stock. Due to the preference to the safe assets in the financial crisis, the stock with higher volatility is averted from the investors. Information asymmetry variable does not show significant results in all analyses. These results support that the explanation related to the inventory or portfolio management is suitable for understanding the liquidity changes of individual stocks in the financial crisis period. Second, among the firm characteristic variables, the cash flow to debt ratio is significantly correlated to the liquidity changes in all empirical analyses. It means that the firm with lower cash flow to debt experiences more severe decline in its liquidity in the stock market. It also implicates that the management of the liquid assets such as cash is important in the financial crisis period.

Key Words: 금융위기,변동성,수익률,유동성,현금흐름,Cash Flow,Financial Crisis,Liquidity,Return,Volatility