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The Effect of COVID-19 on the Relationship between Idiosyncratic Volatility and Expected Stock Returns

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  • Seyed Reza Tabatabaei Poudeh

    (School of Business, Faculty of Business and Economics, University of Northern British Columbia, Prince George, BC V2N 4Z9, Canada
    Northern Health, 299 Victoria St, Prince George, BC V2L 5B8, Canada)

  • Sungchul Choi

    (School of Business, Faculty of Business and Economics, University of Northern British Columbia, Prince George, BC V2N 4Z9, Canada)

  • Chengbo Fu

    (School of Business, Faculty of Business and Economics, University of Northern British Columbia, Prince George, BC V2N 4Z9, Canada)

Abstract

This study examines the effect of the COVID-19 pandemic on the relationship between idiosyncratic volatility and expected stock returns. Using daily stock return data in the US market from the Center for Research in Security Prices (CRSP), we estimate monthly idiosyncratic volatility and investigate the effect of the COVID-19 pandemic at the portfolio and firm level. The results of portfolio analysis and cross-sectional regression show that the relationship between idiosyncratic volatility and subsequent stock returns switches from negative to positive during the pandemic period. Furthermore, we find that the relationship is robust to skewness for the “before the pandemic” and “after pandemic” periods. On the contrary, when we control for the one-month return reversal, the effect of idiosyncratic volatility on the subsequent stock returns becomes insignificant in both periods. Therefore, the short-term return reversal effect is the underlying reason for the relationship switching from negative to positive in the pandemic period. Our results are beneficial for investors and researchers.

Suggested Citation

  • Seyed Reza Tabatabaei Poudeh & Sungchul Choi & Chengbo Fu, 2022. "The Effect of COVID-19 on the Relationship between Idiosyncratic Volatility and Expected Stock Returns," Risks, MDPI, vol. 10(3), pages 1-11, March.
    • Handle: RePEc:gam:jrisks:v:10:y:2022:i:3:p:57-:d:763459
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    References listed on IDEAS

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