How is illiquidity priced in the Chinese stock market?

Abstract This study investigates the liquidity premium in the Chinese stock market. We found that the expected stock returns increase monotonically with the quintile sort on characteristic liquidity with descending patterns. The characteristic liquidity premium ranges from 0.82% to 1.28% per month, which is much higher than that of their US counterparts. Moreover, our multivariate decomposition approach highlights that characteristic illiquidity premiums can be explained mainly by size, idiosyncratic volatility and momentum. The net systematic liquidity premium reaches 0.84% per month, driven mainly by commonality beta. The finding shows that a liquidity‐based strategy forecasts cross‐section and time‐series expected returns.