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Incomplete information, idiosyncratic volatility and stock returns

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  • Berrada, Tony
  • Hugonnier, Julien

Abstract

When investors have incomplete information, expected returns, as measured by an econometrician, deviate from those predicted by standard asset pricing models by including a term that is the product of the stock’s idiosyncratic volatility and the investors’ aggregated forecast errors. If investors are biased this term generates a relation between idiosyncratic volatility and expected stocks returns. Relying on forecast revisions from IBES, we construct a new variable that proxies for this term and show that it explains a significant part of the empirical relation between idiosyncratic volatility and stock returns.

Suggested Citation

  • Berrada, Tony & Hugonnier, Julien, 2013. "Incomplete information, idiosyncratic volatility and stock returns," Journal of Banking & Finance, Elsevier, vol. 37(2), pages 448-462.
  • Handle: RePEc:eee:jbfina:v:37:y:2013:i:2:p:448-462
    DOI: 10.1016/j.jbankfin.2012.09.004
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    1. repec:eee:reveco:v:51:y:2017:i:c:p:660-676 is not listed on IDEAS
    2. Harjoat S. Bhamra & Raman Uppal, 2014. "Asset Prices with Heterogeneity in Preferences and Beliefs," Review of Financial Studies, Society for Financial Studies, vol. 27(2), pages 519-580.
    3. repec:kap:rqfnac:v:49:y:2017:i:2:d:10.1007_s11156-016-0595-8 is not listed on IDEAS
    4. repec:eee:ecmode:v:64:y:2017:i:c:p:231-248 is not listed on IDEAS
    5. Gider, Jasmin & Westheide, Christian, 2016. "Relative idiosyncratic volatility and the timing of corporate insider trading," Journal of Corporate Finance, Elsevier, vol. 39(C), pages 312-334.

    More about this item

    Keywords

    Idiosyncratic volatility; Incomplete information; Cross-section of stock returns;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • D92 - Microeconomics - - Micro-Based Behavioral Economics - - - Intertemporal Firm Choice, Investment, Capacity, and Financing

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