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Fact Sheet - List and brief summary of articles ralated to " Idiosyncratic Riskt in Stock Market"
Article Name
Written By Year Hypothesis Independent Variable Dependent Variable Model Summary
examine aggregate idiosyncratic volatility in 23 developed equity markets, using various methodologies, and find no evidence of upward trends when we extend the sample till 2008. Instead, idiosyncratic volatility appears to be well described by a stationary autoregressive process that occasionally switches into a higher-variance regime that has relatively short duration. Also document that idiosyncratic volatility is highly correlated across countries. Finally, examine the determinants of the time-variation in idiosyncratic volatility. In most specifications, the bulk of idiosyncratic volatility can be explained by a growth opportunity proxy, total (U.S.) market volatility, and in most but not all specifications, the variance premium, a business cycle sensitive risk indicator. Examine the properties and portfolio management implications of value-weighted idiosyncratic volatility in 24 emerging markets. This paper provides evidence against the view that the rise of idiosyncratic risk is a global phenomenon. Specific and market risks jointly predict market returns, as there is a negative (positive) relation between idiosyncratic (market) risk and subsequent stock returns. Idiosyncratic volatility is the most important component of tracking error volatility, and it does not exhibit either an upward or a downward trend. Thus, investors do not have to increase, on average, the number of stocks they hold to keep the active risk constant The traditional CAPM approach argues that only market risk should be incorporated into asset prices and command a risk premium. This result may not hold, however, if some investors can not hold the market portfolio. For example, if one group of investors fails to hold the market portfolio for exogenous reasons, the remaining investors will also be unable to hold the market portfolio. Therefore, idiosyncratic risk could also be priced to compensate rational investors for an inability to hold the market portfolio. A variation of the CAPM model is derived to capture this observation as well as to draw testable implications. Under both the Fama and MacBeth (1973) and Fama and French (1992) testing frameworks, we find that idiosyncratic volatility is useful in explaining cross-sectional expected returns. We also discover that returns from constructed portfolios directly co-vary with idiosyncratic risk hedging portfolio returns The roles played by idiosyncratic risk and liquidity in determining stock returns have recently received a great deal of attention. However, recent empirical tests have not examined the interaction between these two factors. As others have shown (and this paper confirms) stocks idiosyncratic risk and liquidity are negatively correlated. To what extent then is each variable responsible for the observed cross sectional patterns in stock returns? Overall, using monthly data, the paper finds that stock returns are increasing with the level of idiosyncratic risk and decreasing in a stocks liquidity. However, while both liquidity and idiosyncratic risk play a role in determining returns, the impact of idiosyncratic risk is much stronger and often eliminates liquiditys explanatory power. The point estimates indicate that a one standard deviation change in idiosyncratic risk has between 2.5 and 8 times the impact of a corresponding change in liquidity on cross sectional expected returns. hypothesize and find that deteriorating earnings quality is associated with higher idiosyncratic return volatility over the period 1962-2001. These results are robust to controlling for (i) inter-temporal changes in the disclosure of value-relevant earnings information, sophistication of investors and for the possibility that earnings quality can be informative about future cash flows; (ii) stock return performance, cash flow operating performance, cash flow variability, growth, leverage and firm size; and (iii) accounting for new listings, hightechnology firms and firm-years with losses, mergers and acquisitions and financial distress. this paper uses a disaggregated approach to study the volatility of common stocks at the market, industry and firm levels. Over the period 1962-97 there has been a noticable increase in firm level volatility relative to market volatility.

Aggregate Idiosyncratic Volatility

Geert Bekaert, Robert J. Hodrick, Xiaoyan Zhang

July-2010

Index Composition/be havioral Trend in idiosyncratic volatility. permanent increase variables, in asset-specific risk Corporate variables, Business cycle variables

subgroup regression and a stepwise regression approach (Hendry Regressions)

Idiosyncratic Risk in Emerging Markets

Timotheos Angelidis

Stock returns effect by idiosyncratic risk and market Idiosyncratic risk stock returns volatility

Idiosyncratic risk, correlation matrix, trend analysis

Idiosyncratic Risk and Security Returns

Burton G. Malkiel, Yexiao Xu

2004 may

relationship of idiosyncratic risk with stock returns due to the non-diversification

Idiosyncratic risk

beta variable

CAPM, F&F 3factor model

Cross-sectional Variation in Stock Matthew Spiegel, Returns: Liquidity and Xiaotong Wang Idiosyncratic Risk

September-2005

both idiosyncratic risk and liquidity influence stock returns?

idiosyncratic risk and liquidity

stock returns

univariate tests, idiosyncratic risk and corrrelation, EGARCH

Financial Reporting Quality and Idiosyncratic Return Volatility over the Last Four Decades

Shiva Rajgopal, Mohan Venkatachalam

link between idiosyncratic volatility and time is associated with proxies for reporting quality

Dechow and Dichev (2002) model, Accrual model

Have individual stock become more volative? An empiral exploration of idiosyncratic risk.

Jhon Y. Campell, Martin Lettau, Burton G. Malkiel, yexiao Xu

February-2000

Firm, Market, Industry

Stock Volatility

ARCH

Fact Sheet

MM101026

SALMAN ZIA

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Article Name

Written By

Year

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Independent Variable

Dependent Variable

Model

Summary
persistence of the momentum and reversal effects is the result of idiosyncratic risk limiting arbitrage. Idiosyncratic risk deters arbitrage, regardless of the arbitrageurs diversification. Reversal is prevalent only in high idiosyncratic risk stocks, suggesting that idiosyncratic risk limits arbitrage in reversal mispricing. This finding is robust to controls for transaction costs, informed trading, and systematic relations between idiosyncratic risk and subsequent returns. Momentum is not related to idiosyncratic risk. Momentum generates a smaller aggregate return than reversal, so the findings along with those in related studies suggest that transaction costs are sufficient to prevent arbitrageurs from eliminating momentum mispricing. This paper models the idiosyncratic or asset-specific return of an asset as the return on a portfolio that is long in that asset and short in other assets in the same class, thereby removing the common components of returns. This is the type of "hedged" position that is held by relative-value investors. Weekly returns data for seven different asset classes suggest that idiosyncratic risk is: higher at times of large return outcomes for the asset class as a whole; positively autocorrelated; and correlated across different asset classes. idiosyncratic volatilities are time-varying and thus their findings should not be used to imply the relation between idiosyncratic risk and expected return. Using the exponential GARCH models to estimate expected idiosyncratic volatilities, significant positive relation between the estimated conditional idiosyncratic volatilities and expected returns. Further evidence suggests that Ang et al.s findings are largely explained by the return reversal of a subset of small stocks with high idiosyncratic volatilities. This paper examines the cross-sectional relation between idiosyncratic volatility and expected stock returns. The results indicate that (i) data frequency used to estimate idiosyncratic volatility, (ii)weighting scheme used to compute average portfolio returns, (iii) breakpoints utilized to sort stocks into quintile portfolios, and (iv) using a screen for size, price and liquidity play a critical role in determining the existence and significance of a relation between idiosyncratic risk and the cross-section of expected returns. Portfolio-level analyses based on two different measures of idiosyncratic volatility(estimated using daily and monthly data), three weighting schemes (valueweighted, equal-weighted, inverse-volatility-weighted), three breakpoints (CRSP, NYSE, equal-market-share), and two different samples (NYSE/AMEX/NASDAQ and NYSE) indicate that there is no robust, significant relation between idiosyncratic volatility and expected returns

Idiosyncratic Risk, Long-Term Reversal, and Momentum

R. David McLean,

january, 2009

Are reversal result of investor overreaction

Idiosyncratic risk, Size, Market to book ratio

stock returns

3 factor model

Idiosyncratic Risk: An Empirical Analysis, with Implications for the Risk of Relative-Value Trading Strategies

Anthony J. Richards

November-1999

Idiosyncratic risk

Arbitrage Pricing theory, Regression, Cross sectional average asset specific risk

Idiosyncratic Risk and the CrossFangjian Fu Section of Expected Stock Returns

May-2008

random walk and idiosyncratic risk is priced

idiosyncratic volatilities

realized return

GARCH

Idiosyncratic Volatility and the Cross- Turan G. Bali, Nusret Section of Expected Returns Cakici

December-2005

relationship of idiosyncratic risk with cross section of average return

CAPM, F&F 3factor model

Michael W. Brandt, The idiosyncratic volatility puzzle: Alon Brav, John R. Time trend or speculative episodes? Graham, Alok Kumar

An Anatomy of Pairs Trading: the Joseph Engelberg, Role of Idiosyncratic News, Common Pengjie Gao and Ravi Information and Liquidity Jagannathan

February-2009

Pairs trading profit

pairs average proportional effective spreads & Change, pairs average daily turnover ratio & change, pairs average cumulative returns Fama-French over the one month, 12 & 36 month, book to market equity ratios, market capitalization, monthly return residual, news and abnormal return

When there is idiosyncratic news about at least one stock within the pair, the total profits from pairs trading decreases even though the news creates potential opportunities for pairs trading since it is more likely that the pair may diverge. We have also highlighted the importance of identifying a variety of risks that an arbitrageur faces when he executes a pairs trading strategy. What is particularly interesting is that the table indicates arbitrage risk - including execution risk and holding risk - seems to move in the opposite direction as horizon risk and divergence risk. This suggests an arbitrageur may face difficult trade-offs when executing the pairs trading strategy. The interaction between these risk types and the optimal investment behavior of the arbitrageur when facing different dimensions of risk appears to be an interesting direction for future research.

Fact Sheet

MM101026

SALMAN ZIA

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Author

hypothesis Methodology Abstract