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The Impact of Trades on Daily Volatility

Author

Listed:
  • Doron Avramov
  • Tarun Chordia
  • Amit Goyal

Abstract

This article 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, that is, 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 expectation models, the non-informational liquidity-driven (herding) trades increase volatility following stock price declines, and the informed (contrarian) trades reduce volatility following stock price increases. The results are robust to different measures of volatility and trading activity. (JEL C30, G11, G12) Copyright 2006, Oxford University Press.

Suggested Citation

  • Doron Avramov & Tarun Chordia & Amit Goyal, 2006. "The Impact of Trades on Daily Volatility," Review of Financial Studies, Society for Financial Studies, vol. 19(4), pages 1241-1277.
  • Handle: RePEc:oup:rfinst:v:19:y:2006:i:4:p:1241-1277
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    File URL: http://hdl.handle.net/10.1093/rfs/hhj027
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    More about this item

    JEL classification:

    • C30 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - General
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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