Anmerkungen:
Nach Informationen von SSRN wurde die ursprüngliche Fassung des Dokuments July 15, 2022 erstellt
Beschreibung:
Stock illiquidity is time-varying and predicts future returns, giving investors an option to time liquidity premium. By nature, capturing liquidity premium requires proper management of liquidity cost. We study a dynamic trading model with randomly evolved bid-ask spread and return predictability derived from it. The optimal trading strategy exhibits three distinct features: (i) capture spot liquidity premium by purchasing shares at large spread; (ii) avoid over-trading by choosing wide no-trade region; and (iii) aim in front of target to chase future liquidity premium. The strong interaction of trading costs and return predictability leads to economically large losses from adopting suboptimal trading strategies. Our model also suggests that with optimal liquidity premium-timing, higher illiquidity risk can make the investor better off. Using an extended model, we further examine the effect of liquidation risk and style drift restriction on optimal trading strategy