Liquidity-adjusted Capital Asset Pricing Model In China

Liquidity is an important factor, which must be considered in investors' asset allocation. It reflects the difficulity of exchanging assets. Many foreign researches demonstrated that liquitidy is meaningful for asset pricing. Therefore I engage into the research of application of liquidity into asset pricing by adopting the data of A stock exchange market in China.Liquidity indexes are measured by Amihud's illiquidity ratio, turnover, zero return rate, effective liquidity and Pastor and Stambaugh'sλliquidity measurement over the sample period from Junuary 1997 to Decenber 2005. According to the research, it is proven that no matter which index is chosen for liquidity measurement, there is liquidity premium in our market, even existing when longer the formation periods or the holding periods. The phenomenon of liquidity premium have great impacts on the traditional asset pricing models, due to which was built on the assumption of perfect market theory and did't take consideration of liquidity problem in the market.I study and improve Liu's method to obtain the liquidity factor, and find that there is no relationship between market return factor and liquidity factor, but size factor and book-to-market factor do contain the liquidity informationce. Based on it, liquidity-adjusted capital asset pricing model (LCAPM) is construted on the Arbitrage Pricing Theory (APT) . Furthermore, it is found that the LCAPM can explain the phenomenon of liquidity premium. In addition, many domestic and foreign researchers have found that there are anomalies in the security markets, such as size effect, book-to-market effect and short-term return revesal effect. This paper also prove them in our domestic stock marktet. The reason why such anomalies exist is that small size stocks, high book-to-market stocks and original low-return stocks have low liquidity in the market, therefore the market anomalies explicit the compensation of liquidity risk finally. So LCAPM is used to explain such anomalies, and it is proven that the model is able to explain the anomalies which cann't be explained by traditinal asset pricing model. The research have the positive effect for the improvement of asset pricing model research in our countrity.