Abstract

https://ssrn.com/abstract=2190976
 
 

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Have We Solved the Idiosyncratic Volatility Puzzle?


Kewei Hou


Ohio State University (OSU) - Department of Finance

Roger Loh


Singapore Management University - Lee Kong Chian School of Business

September 1, 2015

Journal of Financial Economics (JFE), Forthcoming
Charles A. Dice Center Working Paper No. 2012-28
Fisher College of Business Working Paper No. 2012-03-028

Abstract:     
We propose a simple methodology to evaluate a large number of potential explanations for the negative relation between idiosyncratic volatility and subsequent stock returns (the idiosyncratic volatility puzzle). We find that surprisingly many existing explanations explain less than 10% of the puzzle. On the other hand, explanations based on investors’ lottery preferences and market frictions show some promise in explaining the puzzle. Together, all existing explanations account for 29-54% of the puzzle in individual stocks and 78-84% of the puzzle in idiosyncratic volatility-sorted portfolios. Our methodology can be applied to evaluate competing explanations for other asset pricing anomalies.

Number of Pages in PDF File: 63

Keywords: idiosyncratic volatility, cross-section of stock returns, lottery preferences, market frictions

JEL Classification: G12, G14


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Date posted: December 18, 2012 ; Last revised: October 2, 2015

Suggested Citation

Hou, Kewei and Loh, Roger, Have We Solved the Idiosyncratic Volatility Puzzle? (September 1, 2015). Journal of Financial Economics (JFE), Forthcoming; Charles A. Dice Center Working Paper No. 2012-28; Fisher College of Business Working Paper No. 2012-03-028. Available at SSRN: https://ssrn.com/abstract=2190976 or http://dx.doi.org/10.2139/ssrn.2190976

Contact Information

Kewei Hou (Contact Author)
Ohio State University (OSU) - Department of Finance ( email )
2100 Neil Avenue
Columbus, OH 43210-1144
United States
614-292-0552 (Phone)
614-292-2418 (Fax)

Roger Loh
Singapore Management University - Lee Kong Chian School of Business ( email )
Lee Kong Chian School of Business
50 Stamford Rd
Singapore, 178899
Singapore
HOME PAGE: http://www.mysmu.edu/faculty/rogerloh/

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