Idiosyncratic Jump Risk Matters: Evidence from Equity Returns and Options

142 Pages Posted: 2 Jun 2016 Last revised: 23 Sep 2018

See all articles by Jean-François Bégin

Jean-François Bégin

Simon Fraser University

Christian Dorion

HEC Montreal

Geneviève Gauthier

HEC Montreal - Department of Decision Sciences; HEC Montreal - Department of Management Sciences

Date Written: September 12, 2018

Abstract

The recent literature provides conflicting empirical evidence on the pricing of idiosyncratic risk. This paper sheds new light on the matter by exploiting the richness of option data. First, we find that idiosyncratic risk explains 28% of the variation in the risk premium on a stock. Second, we show that the contribution of idiosyncratic risk to the equity premium arises exclusively from jump risk. Finally, we document that the commonality in idiosyncratic tail risk is much stronger than that in total idiosyncratic risk documented in the literature. Tail risk thus plays a central role in the pricing of idiosyncratic risk.

Keywords: Risk premiums; Idiosyncratic risk; Systematic risk; Tail risk; Option valuation; GARCH

JEL Classification: G12, G13

Suggested Citation

Bégin, Jean-François and Dorion, Christian and Gauthier, Genevieve, Idiosyncratic Jump Risk Matters: Evidence from Equity Returns and Options (September 12, 2018). Available at SSRN: https://ssrn.com/abstract=2787531 or http://dx.doi.org/10.2139/ssrn.2787531

Jean-François Bégin

Simon Fraser University ( email )

8888 University Drive
Burnaby, British Columbia V5A 1S6
Canada

HOME PAGE: http://www.sfu.ca/~jbegin

Christian Dorion (Contact Author)

HEC Montreal ( email )

3000, Chemin de la Côte-Sainte-Catherine
Montreal, Quebec H2X 2L3
Canada
5143401522 (Phone)
5143405632 (Fax)

HOME PAGE: http://neumann.hec.ca/pages/christian.dorion/

Genevieve Gauthier

HEC Montreal - Department of Decision Sciences ( email )

3000 Côte-Sainte-Catherine Road
Montreal, QC H2S1L4
Canada

HEC Montreal - Department of Management Sciences ( email )

Montreal, Quebec H3T 2A7
Canada

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