Is Unlevered Firm Volatility Asymmetric?

49 Pages Posted: 17 Mar 2006

See all articles by Hazem Daouk

Hazem Daouk

Cornell University - School of Applied Economics and Management

David T. Ng

Johnson College of Business

Multiple version iconThere are 2 versions of this paper

Date Written: January 11, 2007


We develop a new, unlevering approach to document how well financial and operating leverage explain volatility asymmetry on a firm-by-firm basis. Volatility asymmetry means that when stock price drops (rises), the volatility of the returns typically increases (decreases). Our evidence, using a large sample of U.S. firms, shows that almost all of the firm-level asymmetry can be explained by financial leverage and, to a smaller extent, operating leverage. This result is robust even when we allow for risky debt. On the index-level, however, even after removing financial and operating leverage from each component firm, a large portion of volatility asymmetry persists. When the market goes down, unlevered index-level returns have higher volatility because the unlevered component stock returns have higher covariance rather than higher volatility. Covariance asymmetry explains why financial leverage causes the firm-level asymmetry but not the index-level asymmetry.

Keywords: Volatility asymmetry, Financial leverage, Operating leverage, Covariance asymmetry, Merton model, Stock returns

JEL Classification: G12

Suggested Citation

Daouk, Hazem and Ng, David T., Is Unlevered Firm Volatility Asymmetric? (January 11, 2007). AFA 2007 Chicago Meetings, Available at SSRN: or

Hazem Daouk

Cornell University - School of Applied Economics and Management ( email )

446 Warren Hall
Ithaca, NY 14853
United States
331-45-78-63-88 (Fax)


David T. Ng (Contact Author)

Johnson College of Business ( email )

301G Warren Hall, Cornell University
Ithaca, NY 14850-1967
United States
6072550145 (Phone)

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