Valuation and Returns on Stock Return Volatility

53 Pages Posted: 29 Nov 2015 Last revised: 22 Mar 2022

Date Written: January 18, 2019

Abstract

This paper provides an accounting-based valuation model that predicts that cross-sectional variation in returns to investments in both stock and stock return volatility are related to cross-sectional variation in accounting-based fundamentals. The model predicts that expected stock returns have a positive quadratic relation with stock return variance and a negative quadratic relation with gains to trading in stock return variance. Consistent with these predictions, firms with high model-implied expected stock returns have high future stock return variance, and the relation is roughly quadratic. In contrast, firms with high expected stock returns have low returns to trading in stock return variance through option contracts because these firms have high option-implied variance relative to future realized variance, i.e., a low variance risk premia (VRP). The study provides a framework for jointly investing in stocks and options and highlights the ability of accounting-based valuation models to explain phenomena across stock and volatility markets.

Keywords: Fundamental Analysis, Valuation, Stock Returns, Variance Risk Premiums, Option Returns

JEL Classification: G12, G14, G17

Suggested Citation

Lyle, Matthew R., Valuation and Returns on Stock Return Volatility (January 18, 2019). Available at SSRN: https://ssrn.com/abstract=2696183 or http://dx.doi.org/10.2139/ssrn.2696183

Matthew R. Lyle (Contact Author)

Goizueta Business School ( email )

1300 Clifton Road
Atlanta, GA 30322-2722
United States

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
734
Abstract Views
4,146
rank
49,213
PlumX Metrics