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Market volatility and stock returns: The role of liquidity providers

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  • Chung, Kee H.
  • Chuwonganant, Chairat

Abstract

This study shows that market volatility affects stock returns both directly and indirectly through its impact on liquidity provision. The negative relation between market volatility and stock returns arises not only from greater risk premiums but also greater illiquidity premiums that are associated with higher market volatility. Consistent with our expectation, we also find that stock returns are more sensitive to volatility shocks in the high-frequency trading era, and after the regulatory changes in the U.S. markets that increased competition between public traders and market makers, reduced the tick size, and decreased the role of market makers.

Suggested Citation

  • Chung, Kee H. & Chuwonganant, Chairat, 2018. "Market volatility and stock returns: The role of liquidity providers," Journal of Financial Markets, Elsevier, vol. 37(C), pages 17-34.
    • Handle: RePEc:eee:finmar:v:37:y:2018:i:c:p:17-34
    DOI: 10.1016/j.finmar.2017.07.002
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    More about this item

    Keywords

    Risk premium; Illiquidity premium; VIX; Market structure;
    All these keywords.

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • G02 - Financial Economics - - General - - - Behavioral Finance: Underlying Principles
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation

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