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Working Paper
Dynamics in systematic liquidity
We develop the principal component analysis (PCA) approach to systematic liquidity measurement by introducing moving and expanding estimation windows. We evaluate these methods along with traditional estimation techniques (full sample PCA and market average) in terms of ability to explain (1) cross-sectional stock liquidity and (2) cross-sectional stock returns. For several traditional liquidity measures our results suggest an expanding window specification for systematic liquidity estimation. However, for price impact liquidity measures we find support for a moving window specification. The ...
Working Paper
Mean-variance vs. full-scale optimization: broad evidence for the U.K.
In the Full-Scale Optimization approach the complete empirical financial return probability distribution is considered, and the utility maximising solution is found through numerical optimization. Earlier studies have shown that this approach is useful for investors following non-linear utility functions (such as bilinear and S-shaped utility) and choosing between highly non-normally distributed assets, such as hedge funds. We clarify the role of (mathematical) smoothness and differentiability of the utility function in the relative performance of FSO among a broad class of utility functions. ...
Working Paper
Does commonality in illiquidity matter to investors?
This paper investigates whether investors are compensated for taking on commonality risk in equity portfolios. A large literature documents the existence and the causes of commonality in illiquidity, but the implications for investors are less understood. We find a return premium for commonality risk in NYSE stocks that is both economically and statistically significant. The commonality risk premium is independent of illiquidity level effects, and robust to variations in illiquidity measurement and systematic illiquidity estimation. We also show that precision in commonality risk estimation ...