Ebook Liquidity and Asset Pricing: Evidence on the Role of Investor Holding Period
Numerous empirical studies find that liquidity matters for asset returns. On the theoretical side, there is however little agreement on what aspects of liquidity can generate large cross-sectional effects in asset returns. A number of theoretical models use the concept of expected holding period to link liquidity to asset prices. So far, it has been hard to investigate these theories empirically. While some attempts have been made, they all suffer from lack of data on actual holding periods.
Instead they rely on proxies of investor holding periods constructed from data on turnover. Even though a high-turnover stock necessarily have many of the stock’s investors buying and selling the stock, it is by no means certain that all owners of the stock have short holding periods. The core of this problem is that turnover is a characteristic of a stock, while holding period is a decision made by individual investors.
In the present paper, we analyze the relationship between holding periods, liquidity and asset prices using data on actual holding periods. The source of our contribution is an access to the complete holdings for all investors at the Oslo Stock Exchange (OSE) over a 10 year period. Our ability to measure holding periods from data on actual trading decisions at the level of individual investors, observed over a substantial period of time, is quite exceptional. Perttunen and Kyrolainen (2006) look at some of the issues we consider in our analysis using a sample of actual holding period data from Finland. However, their focus is not on the asset pricing implications of holding period. Besides, they have a shorter sample period than we have. To our knowledge, our paper is also the first to use duration analysis in this context, which is the proper econometric framework for analyzing questions about the length of time an investor chooses to keep his or her stake in a company.
We look at three issues. First, we describe individual holding period decisions, and evaluate the determinants of these decisions. The typical holding period is found to be 3/4 of a year, but the probabilities of liquidating an equity position, conditional on the length of time the ownership has lasted, shows considerable time variation. Typical measures of liquidity, such as the bid ask spread and turnover, are important determinants of individual holding period decisions. We also find clear differences in average holding periods across investor types.
Second, we ask to what degree typical proxies of holding period measure actual holding periods. We both compare actual holding period estimates to alternatives provided in the literature, and investigate the extent to which, in the cross-section of equities, holding periods and liquidity measures covary. Relative to existing evidence, holding periods seem shorter than previously thought. This is due to the fact that the distribution of actual holding periods is very skewed, at the same time as the distribution of turnover across stocks is skewed.
Our estimate of the median holding period from turnover data is close to the mean actual holding period of around 2 years, a significantly higher number than the median actual holding period of 3/4. To investigate correlations between holding period and liquidity measures, we construct a measure of average holding period at the stock level. As expected, the average holding period measure is positively related to spreads and negatively related to turnover. However, the correlation coefficients are surprisingly low.
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