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Liquidity Premium

  1. Yakov Amihud1,
  2. Haim Mendelson2

Published Online: 15 MAY 2010

DOI: 10.1002/9780470061602.eqf18004

Encyclopedia of Quantitative Finance

Encyclopedia of Quantitative Finance

How to Cite

Amihud, Y. and Mendelson, H. 2010. Liquidity Premium. Encyclopedia of Quantitative Finance. .

Author Information

  1. 1

    New York University, New York, NY, USA

  2. 2

    Stanford University, Palo Alto, CA, USA

Publication History

  1. Published Online: 15 MAY 2010

Abstract

An asset is liquid if it can be traded quickly and at low cost. In addition to risk, liquidity affects asset prices and returns. Because investors want to be compensated for bearing the costs of illiquidity, asset returns are increasing in illiquidity. Thus, asset prices should depend on two asset characteristics: risk and liquidity. This article surveys research on the effects of liquidity on asset prices and returns. We find that liquidity is an important factor in capital asset pricing.

Keywords:

  • liquidity and asset pricing;
  • liquidity risk premium;
  • market microstructure;
  • transaction costs