The impact of the prospect theory value on the relationship between liquidity risk and returns

Purpose This study aims to investigate the relationship between return and liquidity risk and the impact of the prospect theory value (PTV) as a moderator variable on this relationship. Design/methodology/approach The statistical population of this study is the companies listed on the Tehran Stock Exchange during the years 2006–2019. In this research, the portfolio construction method and alpha analysis of the factor models and the cross-sectional regression of Fama and Macbeth have been used to analyze the data. Findings The results obtained through the portfolio construction method and the cross-sectional regression of Fama and Macbeth show that there is no significant relationship between return and Amihud (2002) criterion (ILLIQ) as liquidity risk. The PTV also does not affect this relationship, but there is a positive and significant relationship between returns and the turnover ratio (TOR) as liquidity risk. In other words, the lower the TOR (higher liquidity risk), the lower the return. On the other hand, the results showed that the PTV affects this relationship. Originality/value To the best of the authors’ knowledge, this study is the first to examine the effect of the PTV on the relationship between return and liquidity risk. It is expected that the results of this study can help investors explain returns better through a deeper understanding of the behavior of investors and their decision-making methods. In other words, by examining the PTV as a proxy for behavioral dimension, we can understand that the relationship between return and liquidity risk can be affected by other dimensions like PTV, so when evaluating risk and return, other influential factors should also be considered.