Following the adoption of a liquidity support programme by the Warsaw Stock Exchange in June 2008, this paper investigates the corporate financial signals on which firms can rely in their communication to investors to enhance the liquidity of their securities in the market. More specifically, this paper takes a new look at the corporate determinants of the liquidity of the shares of Polish firms listed on the WSE. Our analysis notably confirms the role played by corporate financial signals in explaining the cost of transacting and the depth of this market. The reported evidence further identifies the price-to-book ratio as a discriminating variable affecting liquidity in the equity segment of the Exchange.
From an academic perspective, the literature on market liquidity essentially focuses on the microstructure determinants of its three dimensions: transaction costs, market depth, and resiliency indeed appear significantly driven by the behaviour of investors (Gennotte and Leland 1990), market activity (McInish and Wood 1992, Chordia et al. 2001), or the design of the trading mechanisms (see e.g., Grossman and Miller 1988, Affleck-Graves et al. 1994, or Stoll 2000). Liquidity co-movements are also documented at the local ( Chordia et al. 2000, Hasbrouck and Seppi 2001) and global ( Brockman et al. 2009) levels. Such exogenous drivers as the corporate signals issued by companies in their communication to investors remain however poorly documented. This paper accordingly contributes to the literature by taking a new look at the corporate determinants of the transaction costs and market depth of the securities listed in the equity segment of the Warsaw Stock Exchange.
Since the launch of quotations in 1991 after a break of more than 50 years, the Polish stock market has become one of the largest equity Exchanges in Eastern Europe, notably in terms of market capitalisation, trading volume and number of companies listed (Federation of European Securities Exchanges, 2010). From an international perspective, its evolution towards a developed market has eventually increased its attractiveness to foreign investors. According to data from the Federation of European Securities Exchanges, the turnover in foreign equity has increased by 127.44% between 2006 and 2011. Over the same period, the number of trades in foreign securities listed on the Exchange has increased by more than 230%. In February 2010, the exchange further gained the ‘Recognised Stock Exchange’ designation from the British HM Revenue and Customs department, hence increasing its attractiveness and accessibility to Britain-based investors.
Market quality has also become increasingly important over the years. The launch of a liquidity support programme in a resolution adopted by the management board of the Warsaw Stock Exchange in June 2008 has notably placed the liquidity of this market under closer scrutiny. In an attempt to protect investors, the programme has indeed reinforced the surveillance of market liquidity, that is, the ability to execute large (buy or sell) orders with limited (or no) impact on the stock price. The programme notably forces the Exchange to constantly monitor the liquidity of the securities listed on its market. Securities facing severe market liquidity dry-ups3 are placed in the lower liquidity space which forces issuers to take additional actions 4 to improve the liquidity of their shares and to inform investors.
Against this background, monitoring and managing market liquidity takes on particular importance for the managers of Polish firms. First, as the literature shows, by pursuing corporate financial policies that improve liquidity, managers can maximise the value of their firms (Amihud and Mendelson 2008). Second, the launch of the liquidity support programme and the reputational consequences for the firms placed in the lower liquidity space are strong incentives for issuers to communicate their financial strength through corporate signals impacting the liquidity of their shares in the market. The Warsaw Stock Exchange consequently stands as a natural candidate to investigate the corporate drivers of market liquidity on which issuers could rely to enhance the liquidity of their securities in the market. To the best of our knowledge, this analysis has never been done in this specific context.
Our results can be summarised as follows. We first report evidence of a strong persistence of the cost of trading and the depth of the securities trading on the Warsaw Stock Exchange. This specifically supports the ability of the Exchange to provide stable liquidity conditions to market participants over time. Our investigation of the corporate drivers of market liquidity on the equity segment confirms the ability of Polish firms to rely on financial signals to enhance the market liquidity of their securities. More specifically, market liquidity appears particularly reactive to indicators of profitability, operating margin, accruals, or investment intensity. Finally, our analysis suggests that the price-to-book ratio can be used as a discriminating factor for monitoring the forces driving market liquidity.
The remaining of this paper is structured as follows. Section 2 introduces market liquidity and defines the estimators used in this study. The corporate financial signals are discussed in Section 3. The empirical evidence is reported in Section 4 and the robustness of our results is assessed in Section 5. Finally, Section 6 concludes.
