Idiosyncratic Volatility Pricing by Explaining Arbitrage Risk

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MOHAMMADI SHAPOUR; Asima Mehdi

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Paper Information

Journal: JOURNAL OF FINANCIAL MANAGEMENT STRATEGY Year:2019 | Volume:7 | Issue:26 Page(s): 1-24

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Title

Idiosyncratic Volatility Pricing by Explaining Arbitrage Risk

Author(s)

MOHAMMADI SHAPOUR | Asima Mehdi | Issue Writer Certificate

Keywords

Arbitrage RiskQ1

Idiosyncratic Volatility PricingQ1

Five-Factor Fama-French ModelQ1

Abstract

According to modern portfolio theory, investors can control idiosyncratic volatility via diversification of investing portfolio. Therefore, it is assumed that investors seek returns only because of systematic risk tolerance. In practice, however, it is observed that idiosyncratic volatility has a price, which is inconsistent with assumptions of modern portfolio theory. The relationship between idiosyncratic volatility and expected returns as well as the factors affecting the pricing of idiosyncratic volatility has been studied so far. In this study, it was attempted to examine how idiosyncratic volatility is priced in Iran’ s capital market by explaining Arbitrage Risk during the 2007-2017 period. For this purpose, one of the current trading restrictions in Iran’ s capital market as well as other common measurement variables and Fama and French’ s five-factor model were employed to estimate Arbitrage Risk and idiosyncratic volatility, respectively. This is the first study using Fama and French’ s five-factor model and Arbitrage Risk in order to price idiosyncratic volatility and asset, respectively. To answer the research question and test the hypothesis, portfolio analysis methods and Fama-MacBeth regression were employed. The results indicated that, while taking into account Arbitrage Risk, the relationship between idiosyncratic volatility and expected return is significant and negative.

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APA: Copy

MOHAMMADI, SHAPOUR, & Asima, Mehdi. (2019). Idiosyncratic Volatility Pricing by Explaining Arbitrage Risk. JOURNAL OF FINANCIAL MANAGEMENT STRATEGY, 7(26 ), 1-24. SID. https://sid.ir/paper/388607/en

Vancouver: Copy

MOHAMMADI SHAPOUR, Asima Mehdi. Idiosyncratic Volatility Pricing by Explaining Arbitrage Risk. JOURNAL OF FINANCIAL MANAGEMENT STRATEGY[Internet]. 2019;7(26 ):1-24. Available from: https://sid.ir/paper/388607/en

IEEE: Copy

SHAPOUR MOHAMMADI, and Mehdi Asima, “Idiosyncratic Volatility Pricing by Explaining Arbitrage Risk,” JOURNAL OF FINANCIAL MANAGEMENT STRATEGY, vol. 7, no. 26 , pp. 1–24, 2019, [Online]. Available: https://sid.ir/paper/388607/en

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