The Liquidity Uncertainty Premium Puzzle

ABSTRACT The puzzling negative relation between liquidity uncertainty and asset returns, originally put forward by Chordia, Subrahmanyam, and Anshuman (2001) and confirmed by the subsequent empirical literature up to date, is neither robust to the aggregation period, nor to the observation frequency used to compute the volatility of trading volume. We demonstrate that their procedure involves an estimation bias due to the persistence and skewness of volumes. When using an alternative approach based on high‐frequency data to measure liquidity uncertainty, the relationship turns out to be positive. However, portfolio strategies based on liquidity uncertainty do not appear to be profitable.