Stock liquidity and default risk

Abstract

This paper examines the impact of stock liquidity on firm bankruptcy risk. Using the Securities and Exchange Commission decimalization regulation as a shock to stock liquidity, we establish that enhanced liquidity decreases default risk. Stocks with the highest default risk experience the largest improvements. We find two mechanisms through which stock liquidity reduces firm default risk: improving stock price informational efficiency and facilitating corporate governance by blockholders. Of the two mechanisms, the informational efficiency channel has higher explanatory power than the corporate governance channel.

Does derivatives use reduce the cost of equity?

“…Notably, the estimated coefficient of´0.0215 on the derivatives use dummy variable is significant at the 1% level. Consistent with Brogaard, Li, and Xia (2017), the industry-adjusted leverage, equity volatility, and illiquidity are positively correlated with the probability of default. We also find similar results when we repeat the above pooled OLS regression analysis using lagged firm-level control variables.…”

“…Firms with higher return on assets are more likely to have lower EDF and therefore a negative relation between them is expected. Recently, Brogaard, Li, and Xia (2017) show that the higher stock-level liquidity reduces financial distress risk. We expect a positive association between EDF and illiquidity.…”

“…In relation to the quick ratio, Haushalter, Klasa, and Maxwell (2007) find that firms with a lower quick ratio are more likely to have a higher probability of default. Following Bharath and Shumway (2008) and Brogaard, Li, and Xia (2017), we also consider excess return, which is computed as the difference between a stock's annual return and annual return on our value-weighted market portfolio constructed in Section 2.3. Finally, equity volatility is obtained as the standard deviation over one year of daily returns and then annualized by multiplying by ?…”

Saving China’s Stock Market?

“…Table 9 describes the main variables in our regression analysis including …rm value, debt value, default probability, return on assets (ROA), market-to-book ratio (M/B), leverage, cash ‡ow, and dividend ratio. Following the recent study by Brogaard et al (2016), we construct the Amihud index, a measure of illiquidity. In our summary statistics, we also include dummy variables SOE (which equals 1 if the actual controller of a company is a state-owned enterprise, otherwise 0), export (which equals 1 if a company had foreign sales in 2015Q1, otherwise 0) and blue chip (which equals 1 if a company is a blue chip, otherwise 0).…”

Impact of Deleveraging on the Liquidity Crisis of China's Stock Market

“…If the market is faced with the deleveraging impact, the squeezed investors need to return to the market to absorb the reduced demand of the deleveraging investors. According to the demand function of the squeezed investors, the market price needs to experience a cliff fall before the squeezed investors can return to the market [4][5] .…”