The Impact of Trades on Daily Volatility
46 Pages Posted: 21 Mar 2004
There are 3 versions of this paper
The Impact of Trades on Daily Volatility
The Impact of Trades on Daily Volatility
The Impact of Trades on Daily Volatility
Date Written: March 15, 2004
Abstract
This paper proposes a trading-based explanation for the asymmetric effect in daily volatility of individual stock returns. Previous studies propose two major hypotheses for this phenomenon: leverage effect and time varying expected returns. However, leverage has no impact on asymmetric volatility at the daily frequency and, moreover, we observe asymmetric volatility for stocks with no leverage. Also, expected returns may vary with the business cycle, i.e., at a lower than daily frequency. Trading activity of contrarian and herding investors has a robust effect on the relationship between daily volatility and lagged return. Consistent with the predictions of the rational expectations models, non-informational liquidity driven (herding) trades increase volatility following stock price declines and informed (contrarian) trades reduce volatility following stock price increases. The results are robust to different measures of volatility and trading activity.
Keywords: asymmetric volatility, informed trades, liquidity based trades
JEL Classification: C50
Suggested Citation: Suggested Citation
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