“The impact of liquidity on common stocks returns: Empirical insights from commercial banks in Nepal”

Most developed and emerging economies pay substantial attention to liquidity to understand stock return behavior. However, there is a need for more focus on understanding the impact of such factors on stock returns in developing countries such as Nepal. This study aims to examine the effect of liquidity, size, financial and asset risk, growth potential, and profitability on stock returns in Nepalese commercial banks. A pooled ordinary least squares regression model is utilized, employing data from the Central Bank of Nepal and the Nepal Stock Exchange. There are 249 observations in the data set, which covers the period from 2009/10 to 2019/20. The model considers the impact of trading volume, market capitalization, book-to-market ratio, asset growth, and return on asset on stock returns in Nepalese commercial banks. The results indicate that trading volume, a proxy of liquidity, positively affects stock returns in Nepalese commercial banks. The finding reveals that when other variables are held constant, a 0.288 percent increase in stock returns is expected for a one percent rise in trading volume. However, asset growth and return on assets show a weakly favorable link with stock returns in Nepal. Conversely, the research findings suggest an insignificant inverse correlation between book-to-market and stock returns. A decrease in stock returns of 0.307 percent is expected for a one percent increase in the book-to-market ratio. Similarly, market capitalization has a negligible effect on stock returns in Nepal.


INTRODUCTION
The stock market facilitates the fund's transfer from lenders to borrowers, reinforces investment, and fosters economic growth (Rose & Marquis, 2008).On the one hand, the stock market allows a company to raise funds to expand and enhance its operations.On the other hand, it will enable investors to share a portion of the company's profits.The fluctuation of stock prices directly influences the confidence of individual and corporate investors and affects the overall economy.When stock prices increase, public trust in the economy also rises, leading to an increased number of investors in the market.It results in higher investment and spending on consumer goods, leading to economic growth (Hasbrouck, 2007).
Liquidity, as measured by trading volume, is influenced by various factors, including positive or negative news about the company, which is reflected in the stock price, financial status, and changes in ownership.As a result, volume is a significant indicator for technical analysis.Additionally, volume is used as a measure of liquidity.When the trading volume is high, its stocks are assumed to be more liquid than when it is low.Compared to illiquid stocks, more liquid stocks offer a lower liquidity premium and lower rates of return.However, at least two significant reasons stress the importance of the price-volume relationship.First, it sheds light on the structure of the financial market (Karpoff, 1987).For instance, the positive correlation between stock returns and trading volume implies that bull markets are accompanied by rising volume, while bear markets are accompanied by falling volume.Additionally, volume movements indicate the rate of information flow into markets.Second, price-volume analysis based on technical analysis is critical because it uses historical data, which may or may not draw the most accurate conclusions.
Theoretically and in practice, many debates remain about the relationship between stock returns and trading volume.Previous studies have shown mixed results.Some findings showed a linear positive impact of trading volume on stock returns, while others found nonlinear positive or negative results.As a result, additional studies based on current data in the context of Nepal must still be investigated.

LITERATURE REVIEW
Studying the impact of liquidity, size, book-to-market ratio, investment growth, and profitability on stock returns is crucial for investors and corporations to make sound investment and financing decisions.The link between stock returns and liquidity varied from negative to positive.The empirical evidence suggests that stock liquidity benefits stock returns.Accordingly, firms with more liquid assets have higher operating income and more equity capital.Company performance is shown in the price of its stock, which is traded very often.If performance is low, this feedback effect makes performance better.Similarly, large equity capital is a hedge against financing and operating losses (Rose, 2002).In contrast, numerous empirical studies have revealed a negative correlation between liquidity and stock performance.The findings suggest that illiquid assets require high transaction costs, must be sold at a discount since they are less desirable, and have greater maturity risk (Datar et al., 1998).For example, Shrestha (2018) and Poudel and Shrestha (2019) found a positive correlation between trading volume and stock returns.Chen (2012) showed that stock returns could accurately predict trading volume in bull and bear markets.Gebka and Wohar (2013) discovered a strong nonlinear relationship between high and low quintiles: a positive relationship for the high quintile and a negative association for the low quintile.Kao et al. (2020) found that when trading volume was above the threshold, it led to higher returns, but when it was below the threshold, it led to lower returns.
The empirical literature (Banz, 1981;Chan et al., 1991;Dangol & Acharya, 2020;Dodonova, 2016;Fama & French, 1992;Gautam, 2017;Khatri Chhetri, 2019;Taussig, 2021;Vasishth et al., 2021) shows that small businesses have better risk-adjusted returns than large businesses.Small businesses have less access to capital markets than large ones, exposing them to significantly greater risk in a credit crisis.Due to the increased risk, investors would require a higher expected rate of return to invest in small businesses (Brigham & Daves, 2018).Another argument for these findings is that small companies have unique, specialized knowledge and more significant growth potential, resulting in higher profit, dividends, and expected stock returns.
However, the size effect is beneficial to stock returns ( Tahir et al., 2013).Large firms benefit from economies of scale, resulting in lower operating costs than small firms, higher profit, and higher expected rate of return.Additionally, large firms benefit from geographical diversification, which results in increased profit and an expected rate of return.Empirically, correlations between stock returns and market capitalization have been observed, ranging from negative to positive.Fama and French (1992) found a negative correlation between market capitalization and stock returns.It indicates that small businesses have a higher expected rate of returns than larger businesses.
Book-to-market has a positive effect on stock returns (Chan et al., 1991;Cooper et al., 2008;Davis, 1994;Kim, 1997;Dichev, 1998 Similarly, Fama and French (1992) suggest that book-to-market is related to risk.If the company's prospects are good, its market value will be high relative to its book value, resulting in a low book-to-market ratio.In addition, because lenders are hesitant to extend loans to a firm with bad prospects, a downturn in the economy might put such a company in financial trouble.In other words, a stock with a high bookto-market ratio may be vulnerable to financial distress, necessitating a greater expected return to attract investors to invest in it (Brigham & Daves, 2018).Book-to-market captures information about both expected cash flow and discount rates.Furthermore, a higher book-to-market ratio indicates lower profitability and a higher level of risk.Thus, investors ultimately demand a higher return rate for the high book-to-market stocks (Aharoni et al., 2013).However, Chiah et al. ( 2016) found an unfavorable link between book-to-market and stock returns.
Asset growth can hurt stock returns (Aharoni et al., 2013;Ma et al., 2021).Low-asset growth firms are considered riskier than high-asset growth firms, as the latter can mitigate high risk through diversification.Generally, low-risk assets tend to yield lower returns compared to high-risk assets.When a firm invests in new opportunities, lowrisk investments often replace aggressive growth alternatives.There are three interpretations for the link between asset growth and stock returns.First, the acquisition hypothesis suggests that when firms acquire other companies to expand their assets, it can negatively affect shareholders' wealth due to poor management practices.Second, the agency cost hypothesis suggests that agents and owners have diverse interests, with managers often prioritizing their interests and empire-building.If empire-building motives drive high asset growth, this can lead to unfavorable future stock returns.Third, the extrapolation hypothesis suggests that investors depend on a firm's past outcome to predict future earnings.However, if the firm's earnings performance declines unexpectedly, investors dispose of their investment, resulting in detrimental future stock returns (Constantinou et al., 2017).Some studies, on the other hand, have found a favorable link between asset growth and stock returns (Barrow, 1990;Chiah et al., 2016;Nichol & Dowling, 2014).
The dividend-discount model of equity valuation contends that the equity value is directly related to a future expected dividend of firms.Similarly, the value of equity is directly associated with a firm's profitability because a higher level of profitability translates into a higher dividend to stockholders.
where SR, TV, MC, BM, AG, and ROA represent stock returns, trading volume, market capitalization, book-to-market, asset growth, and return on assets, respectively.

RESULTS
The study formed portfolios based on stock returns.The breakpoints are measured by taking each variable's 20th, 40th, 60th, and 80th percentiles.The trading volume is between -2.40 and 10.765, with an average value of 0.213.Similarly, the market capitalization ranges from a minimum of 6.528 to a maximum of 11.621, with an average of 9.660.The book-to-market ratio ranges from -0.253 to 3.023, averaging 0.480.The asset growth rate also ranges from -0.177 to 1.163, averaging 0.217.Finally, the ROA varies from -0.099 to 0.082, with an average of 0.016.
The computation of Pearson's correlation coefficients occurs after reporting descriptive statistics; the outcomes are displayed in Table 3. Table 3 reveals that trading volume positively correlates with stock returns.It indicates that higher trading volume leads to higher stock returns.Likewise, the study also shows that market capitalization is positively linked with stock returns.The book-tomarket ratio negatively correlates with stock returns, trading volume, and market capitalization.A higher book-to-market value indicates lower stock returns, trading volume, and market capitalization.On the other hand, the asset growth rate is positively correlated with stock returns, trading volume, market capitalization, and book-to-mar-ket ratio, indicating that a higher value of the asset growth rate precedes a higher value of stock returns, trading volume, market capitalization, and book-to-market ratio.Similarly, ROA is positively correlated with stock returns, trading volume, and market capitalization, indicating that a higher value of ROA leads to a higher value of stock returns, trading volume, and market capitalization.
In contrast, ROA is negatively correlated with the book-to-market ratio and asset growth rate, which reveals that a higher value of ROA leads to a lower book-to-market ratio and asset growth rate value.Note: * indicates significance at the 5% level, ** indicates significance at the 1% level.SR = stock returns, TV = trading volume, MC = market capitalization, BM = book-to-market, AG = asset growth, and ROA = return on assets.
The regression analysis was carried out after the correlation matrix was reported.Table 4 shows trading volume, market capitalization, book-tomarket ratio, asset growth, and ROA regression outcomes on stock returns.

DISCUSSION
The

CONCLUSION
The study examined the impact of trading volume, market capitalization, book-to-market ratio, asset growth, and return on asset on stock returns in the Nepalese stock market.The study covered a sample of 26 commercial banks in Nepal.The relevant data were collected from 2009/10 to 2019/20, leading to 249 observations.The study's outcomes showed that trading volume and book-to-market have a more extraordinary ability to predict stock returns in the Nepalese stock market.The three anomalies -trading volume, asset growth, and return on asset -positively affected the stock returns of commercial banks in Nepal.Thus, the higher the trading volume, asset growth, and return on asset, the higher the stock returns.On the other hand, the study disclosed that book-to-market has a negligible negative effect on stock returns.Similarly, market capitalization has an insignificant effect on stock returns in Nepal.These findings offer valuable insights for corporate and individual investors, enabling them to make informed investment decisions to enhance their wealth.
In the Nepalese stock market context, the study focuses primarily on five anomalies: trading volume, market capitalization, book-to-market, asset growth, and return on asset.Further research should include additional anomalies such as price-to-book, investment growth, and financial leverage in the context of Nepal.
In the future, researchers should look at extending the literature to the South Asian Association for Regional Cooperation or Asian financial markets to see how they behave differently from the Nepalese stock market.

Table 1 .
Portfolio sorting based on stock returns

Table 2 .
Descriptive statistics Note: SR = stock returns, TV = trading volume, MC = market capitalization, BM = book-to-market, AG = asset growth, and ROA = return on assets.

Table 4 .
Estimated regression outcomes of trading volume, market capitalization, book-to-market ratio, asset growth, and ROA on stock returns Note: * indicates significance at the 5% level, ** indicates significance at the 1% level.t-statistic is in parenthesis.SR = stock returns, TV = trading volume, MC = market capitalization, BM = book-to-market, AG = asset growth, and ROA = return on assets., and Ma et al. (2021).The findings can be clarified by the fact that asset expansion can boost a company's efficiency and profitability, which raises its dividend and stock price, resulting in higher stock returns.Finally, the predictor variable, ROA, positively affects stock returns.This finding is in line with Chiah et al. (2016), Ma et al. (2021), Nguyen et al. (2019), Nichol and Dowling (2014) and contrasts with Blazenko and Fu (2013).The result of the coefficient is supported by the evidence that greater profitability results in more enormous dividends for owners and increases both the stock price and stock returns.
Likewise, the third predictor variable, book-tomarket, negatively affects stock returns.This outcome is consistent with Chiah et al.(2016)and in