The pricing of liquidity risk on the Shanghai stock market

•This article contributes to confirm the pricing of market-wide liquidity risk in the Chinese stock market.•Conventional portfolio sorting of liquidity beta quintiles successfully confirms the pricing of liquidity risk.•Threshold portfolios' sorting further confirms that liquidity risk is substantially priced.•Among four liquidity measures, the Pastor and Stambaugh (2003) and Amihud measures outperform others in identifying the liquidity risk premium.

This study investigates whether liquidity is a source of priced systematic risk in stock returns of the Shanghai stock market in China. It is found that the cross-sectional expected stock returns are related to the sensitivities of returns to fluctuations in aggregate market liquidity. This research contributes to the literature in two ways: First, in addition to conventional portfolio sorting of liquidity beta quintiles, the threshold estimates of portfolio regimes are examined, that is, portfolios are sorted by estimated liquidity betas; the usefulness of threshold portfolio sorting is confirmed, which further confirms that liquidity risk is substantially priced. Second, among four liquidity measures, the Pastor and Stambaugh (2003) and Amihud measures outperform others in identifying the liquidity risk premium. Moreover, evidence from quantile regression provides robust confirmation of the results.