Liquidity: Urban Versus Rural Firms
The paper examines the impact of geographic location on liquidity for U.S.rural- and urban-based companies.
Even after adjusting for size and other factors, rural firms trade much less,are covered by fewer analysts, and are owned by fewer institutions than urbanfirms. Trading costs are higher for rural Nasdaq firms, and volume that can beattributed to market wide factors is lower for rural stocks. The findings add toour understanding of the way that access to information and familiarity affectliquidity.
Urban stocks are local stocks for many more people. Their familiarity to alarge number of people ensures many potential investors for the stock. Our ruralstocks, however, are local stocks to fewer people. They are likely to capturethe attention of a far smaller number of possible stockholders.
It will also be more difficult to obtain information on them for mostinvestors. This suggests to us that the market for urban stocks is likely to bemuch more liquid than the market for rural stocks.
To classify stocks as urban or rural, the authors follow a number of authors,and use a company’s headquarters as a proxy for its location. They obtain theheadquarters locations for companies from Compustat, Nasdaq, and Moody’s.
A stock is defined as an urban stock if the company headquarters is in one ofthe ten largest metropolitan areas of the United States according to the 2000census. Companies located in a suburb of one of these cities are also includedin the urban portfolio.
The research provides evidence that liquidity is lower for rural stocks thanurban stocks.
First, it shows that turnover (the proportion of outstanding shares that istraded during a day) is significantly lower for rural stocks. This is true afteradjustment for firm size, industry, analyst coverage, S&P 500 listing,institutional holdings, and insider holdings. It is true for large and smallfirms, for firms that list on Nasdaq, and for firms that list on the NYSE/Amex.
Second, it shows that trading costs, at least for Nasdaq stocks, are higherfor rural firms. This is true for quoted spreads and for effective spreads forsmall, medium, and large trades. The difference in trading costs is economicallysignificant, amounting to about $1/8 for a $25 stock. Differences in marketcapitalization, analyst coverage, and industry do not explain the differences intrading costs.
University of Notre Dame - Department of Finance & Business Economics
Tim Loughran and Paul Schultz
By: Rene Wagenaar,