Liquidity and commonality in emerging markets

Abstract

This study investigates the extent to which liquidity of emerging market stocks co-moves with each other, and tries to explore the underlying mechanism that drives commonality in liquidity. The empirical results show that in emerging markets, commonality in liquidity is significantly higher than that in developed markets, and individual stock liquidity is more affected by fluctuations in market prices than by fluctuations in individual stock prices, suggesting that higher commonality in liquidity in emerging markets could be caused by higher co-variation in stock volatility and inventory risk. Consistent with this conjecture, commonality in liquidity is found to be positively related to co-movement in volatility. These findings reinforce the idea that liquidity commonality is related to market-wide factor. The study also documents that liquidity co-movement across emerging markets has a strong geographic component. The initial results do not support the presence of a global liquidity factor.