The impact of stock liquidity and country-wide factors on depositary receipts return and volatility: Implications from the UK

Abstract

This thesis focuses on the impact of stock liquidity and country-wide factors on return and volatility of Depositary Receipts (DRs). As a case study, it examines the underlying stocks that are traded in the UK and their corresponding DRs that are traded in 46 markets across 25 countries, considering the impact of home/foreign country corruption. The statistical analysis is carried out by using GLS, in addition to WLS and Robust regression as a robustness check for unbalanced panel data which cover the period from 2004 to 2019. This thesis highlights the importance of combining two theories; liquidity preference theory (which asserts that investors prefer highly liquid holdings, as DRs can be liquidated quickly by selling them in one of foreign countries in which they are traded or back to their original stocks in the UK) and international diversification theory (that underlines the importance of DRs in diversifying investments internationally). Also, arbitrageurs can benefit from differences between prices of stock/DR or DR/DR till maintaining their parity when markets become efficient according to efficient market hypothesis. The findings show that; (a) Increase in trading volume, as a proxy for liquidity, of underlying stocks and DRs leads to an increase in return and a decrease in volatility,(b) Inflation has a significant positive effect on return and volatility,(c) Interest rate has a significant negative effect on return and positive effect on volatility,(d) GDP has an unexpectedly significant negative effect on most of countries return, however it has an insignificant effect on volatility,(e) Exchange rate has a significant negative effect on return of most of countries, however, its effect on volatility differs from one country to another,(f) Corruption of home/foreign countries have mostly the same significant negative effects on return, however their effects differ on volatility. Actually, previous studies focused only on these factors partially. Therefore, this thesis fills the gap in knowledge by building more comprehensive model that guides investors/arbitrageurs in their decisions concerning investments in DRs.