Stock Liquidity and Returns: Evidence from the Zimbabwe Stock Exchange

Abstract

This study extends the literature on the relationship between stock liquidity and returns by presenting evidence from the capital market of a developing economy. Using data from the Zimbabwe Stock Exchange, we apply a vector autoregression model in examining the impact of stock liquidity on returns over the period February 2009 to December 2012. The study employs four proxies as stock liquidity measures, namely; trading volume, turnover, relative bid-ask spread and relative spread. The analysis also applies Granger causality tests from the VAR models. We also enhance the robustness of the analysis by considering the impulse response functions and variance decompositions. Results from the study show that stock liquidity variation plays an important role in stock returns because investors tend to price liquidity premium in stocks. The main finding is that liquidity negatively affects stock returns for stocks listed on the ZSE.