Essay 1: Liquidity Risk around the World¹...[ Read more ]

Essay 1: Liquidity Risk around the World¹

In this essay, I investigate whether international investors should be concerned about liquidity risk for stocks at the local level in each of the 23 developed countries, and also for market portfolios at the global level across these countries. Using two major liquidity measures, I find that local liquidity risk is significantly priced for stocks in most of these markets in addition to Fama-French three local factors. The premium for local liquidity risk is significantly lower in a country where the country-level corporate board is more effective and there is less insider trading activity. I also discover that global liquidity risk is positively priced for these 23 diversified market portfolios after controlling for global market, value, and size factors. The contributions of global liquidity risk to the returns of locally-diversified market portfolios are economically and statistically significant across and within economic regions.

JEL Classification: G11, G12, G15

Key Words: International; Liquidity risk; Risk Premium

Essay 2: Volatility and Stock Market Returns around the World²

In this essay, I investigate how idiosyncratic volatility is cross-sectionally related to the expected returns at the stock level and at the market portfolio level across 23 developed countries. I also examine whether international investors are concerned about aggregate volatility risk at the local level and at the global level. I find that local volatility innovation is a priced risk factor for stocks in some countries. I also discover that global volatility innovation is negatively priced for these 23 market portfolios after controlling for global market, value and size factors. In sharp contrast to the stock level, I uncover that both local total volatility and local idiosyncratic volatility have high expected market portfolio returns even after adjusting for these global factors. They dominate these four global factors in explaining market portfolio returns. Supporting Merton’s (1987) incomplete information model, this result suggests that idiosyncratic stock volatility can be diversified away when investors hold locally-diversified market portfolios. Global investors are rewarded by high returns for bearing high risk characteristic measured by local volatility in a country.

JEL Classification: G11, G12, G15

Keywords: International, volatility innovation, idiosyncratic volatility, incomplete information