An Empirical Exploration Of Liquidity And Expected Return Of Chinese Stock Market

Liquidity is a basic core indicator to measure the efficiency of market quality and is one of the important attributes of stock market. Liquidity should be a factor in pricing assets. Research on the relationship between liquidity and return is of great significance for investors and market regulators, which is the just reason for this article topic.Firstly, this article will use liquidity indicators based on depth and logarithmic rate of return to do the Granger Causality test, and create Vector Auto Regression model. Then the method of minimizing the FPE and the method of F-test will be used to do the causality test between return and liquidity. Besides, the method of Impulse Response Function will be used to test the dynamic relationship between the two variables. The empirical results show that the result of F-test method is sensitive to lags, but the method of minimizing the FPE is more stable. Whether it is bull market or bear market, the return of the stock market always guides liquidity, but liquidity doesn't guide return of the market. The results of Impulse Response Function show that the dynamic relationship between return and liquidity of Chinese stock market are as follows. (1)An upward or downward of liquidity fluctuation impacts the return of the market immediately, but the impact doesn't last long. In other words, previous level of liquidity cannot predict the return of stock market. (2)An upward or downward of market return fluctuation does not change the current level of liquidity, but in the long period it will influence the liquidity strongly.Then, based on Amihud and Mendelson'(1986), and Amihud's(2002), this paper performs a time-series empirical exploration of expected return and liquidity on Chinese stock markets using the turnover ratio as an indicator for liquidity. Different from developed markets, expected and unexpected market liquidity positively affect on stock excess return. Excess return of more liquid stocks experience stronger effects of expected and unexpected market liquidity after substitution from more liquid to less liquid stocks. Finally, we suppose that the under-developed market situation and excessive speculative behaviors might contribute to the abnormal liquidity-return relationship on Chinese stock markets.