TY  - JOUR
AU  - Vayanos,Dimitri
TI  - Flight to Quality, Flight to Liquidity, and the Pricing of Risk
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 10327
PY  - 2004
Y2  - February 2004
UR  - http://www.nber.org/papers/w10327
L1  - http://www.nber.org/papers/w10327.pdf
N1  - Author contact info:
Dimitri Vayanos
Department of Finance, A350
London School of Economics
Houghton Street
London WC2A 2AE
UNITED KINGDOM
Tel: +44 (0)20 7955 6382
Fax: +44 (0)20 7955 7420
E-Mail: d.vayanos@lse.ac.uk
AB  - We propose a dynamic equilibrium model of a multi-asset market with stochastic volatility and transaction costs. Our key assumption is that investors are fund managers, subject to withdrawals when fund performance falls below a threshold. This generates a preference for liquidity that is time-varying and increasing with volatility. We show that during volatile times, assets' liquidity premia increase, investors become more risk averse, assets become more negatively correlated with volatility, assets' pairwise correlations can increase, and illiquid assets' market betas increase. Moreover, an unconditional CAPM can understate the risk of illiquid assets because these assets become riskier when investors are the most risk averse.
ER  -