63 Pages Posted: 25 Mar 2008 Last revised: 28 Jun 2011
Date Written: July 30, 2010
We examine aggregate idiosyncratic volatility in 23 developed equity markets, measured using various methodologies, and we 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. We also document that idiosyncratic volatility is highly correlated across countries. Finally, we 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. Our results have important implications for studies of portfolio diversification, return volatility and contagion.
Keywords: idiosyncratic volatility, trend test, regime switching model, diversification, return correlation, volatility dynamics, growth opportunities, variance premium, contagion
JEL Classification: C52, G11, G12
Suggested Citation: Suggested Citation
Bekaert, Geert and Hodrick, Robert J. and Zhang, Xiaoyan, Aggregate Idiosyncratic Volatility (July 30, 2010). AFA 2009 San Francisco Meetings Paper; EFA 2009 Bergen Meetings Paper. Available at SSRN: https://ssrn.com/abstract=1108170 or http://dx.doi.org/10.2139/ssrn.1108170