I model the behavior of an arbitrageur who is exposed to time-varying liquidity. She is averse to liquidating her position in a bad liquidity state. Therefore, she limits her trading in stocks having high variation in liquidity. In equilibrium, these stocks experience severe mispricing due to...

This paper explores the relationship between variation in liquidity and mispricing. Mispricing is severe among stocks with high variation in liquidity. Among underpriced (overpriced) stocks, stocks with high variation in liquidity are more underpriced (overpriced). The mispricing is more...