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In the aftermath of the sub-prime crisis, liquidity risk has become a major topic. In order to understand liquidity risks, funding risks as well as asset side risks have to be confronted. The confrontation of both types of risks in a banking framework is discussed in Nikolaou (2009) as well as Drehmann and Nikolaou (2009). We will, here, focus on asset side liquidity which might impact investment funds and banks’ trading books. It is well-known that liquidity is not constant and varies with market movements. Asset liquidity is typically measured with bid-ask spreads.
Proportional quoted spreads can be estimated by dividing the difference of the bid-ask spreads by the mid-quote. This measure can then be used to analyze liquidity movements. Hameed et al. (2010) analyze those...
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