The Behavior of an Institutional Investor with Arbitrage Opportunities and Liquidity Risk

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This study analyzes the efficiency of liquidity flows in stabilizing distressed markets from a theoretical perspective. We show that even in the event of a major negative market shock, a financial institution can increase its investment in the market when there is a strong incentive for arbitrage profit. However, the institution may choose to reduce its investment if the fear from liquidity risk exceeds the arbitrage incentive. In addition, our model reveals a positive relationship between funding liquidity and market liquidity. Our findings help to explain several financial issues in distressed markets, including the flight to quality, liquidity dry-ups, asset fire sales, and market shock amplifications.
Publisher
ROUTLEDGE JOURNALS, TAYLOR & FRANCIS LTD
Issue Date
2019
Language
English
Article Type
Article
Keywords

STOCK-PRICE MANIPULATION; INDEX DERIVATIVES; OPTION MARKET; BANK RUNS; LIMITS; DISAGREEMENTS; EQUILIBRIUM; INFORMATION; QUALITY; FLIGHT

Citation

EMERGING MARKETS FINANCE AND TRADE, v.55, no.1, pp.1 - 12

ISSN
1540-496X
DOI
10.1080/1540496X.2018.1498333
URI
http://hdl.handle.net/10203/246202
Appears in Collection
MT-Journal Papers(저널논문)
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