Asset Pricing Model with Liquidity Variables in Stock Market

AUTHOR(S):

TITLE

Asset Pricing Model with Liquidity Variables in Stock Market

ABSTRACT

This study derives asset pricing model with liquidity variables to examine the relationship between expected returns and other explanatory variables in the case of Thailand and Singapore. It also compares the results from the stock exchange of Thailand with those from the stock exchange of Singapore. By introducing liquidity variables in business cycle model, the dynamic stochastic general equilibrium is derived to come up with a new asset pricing model in order to account for expected returns and equity premium. The modeled economy shows the substitution between consumption today and consumption in the future. In fact, consumption at different times has different prices. The discrete time optimization model is employed to write Bellman’s equation, Lagrange equation, and solve for Euler equation and Envelope condition before end up with general equilibrium. Therefore, the new asset pricing model is computed by using Log-linear approximation. In addition, simulation method and Generalized Method of Moments are employed to test such model. The next findings show that this model has an ability to capture the data of Thailand and Singapore. Indeed, the growth rate of aggregate consumption is positively related to the expected returns in case of banking group index of Thai stock market and Straits Times Index. Still, the growth rate of market index is positively related to the expected returns in the case of Singapore. Furthermore, such theoretical and empirical results demonstrate that transaction cost has a positive effect on the expected stock returns in both cases. In contrast, the coefficient of relative risk aversion has a negative effect on the expected stock returns.

KEYWORDS

Dynamic stochastic general equilibrium model, Asset pricing model, Expected return, Liquidity variables, Consumption growth rate

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Cite this paper

Pithak Srisuksai. (2017) Asset Pricing Model with Liquidity Variables in Stock Market. International Journal of Economics and Management Systems, 2, 356-365