Risk USA 2003: Jarrow describes new research on liquidity risk

Robert Jarrow, professor of finance and economics at Cornell University and an originator of the seminal Heath-Jarrow-Morton interest rate term-structure model, has described a new method for incorporating liquidity risk - the additional price volatility due to the size and timing of a trade – into the arbitrage pricing framework. The topic will be formally taken up by Jarrow and several co-authors in a paper due out in the next few weeks.

Speaking at the annual Risk USA conference in Boston, Jarrow sought to set his research apart from the growing body of literature on market microstructure. Although he praised this work, he suggested it might not be feasible to apply it in actual market situations.

Jarrow said his recent years of research on credit risk motivated his current interest in liquidity risk. Credit markets are relatively illiquid, and any attempts to infer probability of default and recovery rates from credit market