We develop a principal component approach to systematic liquidity measurement by introducing moving and expanding estimation windows. We evaluate these methods along with traditional estimation techniques (full sample PCA and market average) in terms of ability to explain (1) cross sectional stock liquidity and cross sectional stock returns. For several traditional liquidity measures our results suggest an expanding window specification for systematic liquidity estimation. The market average proxy of systematic liquidity produces the same degree of commonality, but does not have the same ability to explain stock returns as the PCA-estimates.
Keywords:Systematic Liquidity, market liquidity, commonality, dynamic principal componentanalysis, robust PCA.