Bank funding constraints and stock liquidity

Abstract

This paper examines the relationship between bank marginal funding constraints and stock liquidity. Using bank credit default swap (CDS) spreads we show that increased funding constraints weaken bank stock liquidity (as measured by liquidity tightness, depth, and resilience). This effect strengthens during crises periods. Deteriorating bank stock liquidity is in turn priced into excess stock returns. In addition, we find that during liquidity crises, monetary expansion can break the relationship between funding costs and stock liquidity. Heightened monetary policy uncertainty, however, strengthens this relation. © 2022 The Author(s). Published by Informa UK Limited, trading as Taylor & Francis Group.

Keywords: Funding spread, Idiosyncratic liquidity risk, Price of liquidity, Stock liquidity