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Why Does Idiosyncratic Risk Increase with Market Risk?

Author

Listed:
  • Bartram, Sohnke M.

    (University of Warwick)

  • Brown, Gregory W.

    (University of North Carolina)

  • Stulz, Rene M.

    (Ohio State University and European Corporate Governance Institute)

Abstract

From 1963 through 2015, idiosyncratic risk (IR) is high when market risk (MR) is high. We show that the positive relation between IR and MR is highly stable through time and is robust across exchanges, firm size, liquidity, and market-to-book groupings. Though stock liquidity affects the strength of the relation, the relation is strong for the most liquid stocks. The relation has roots in fundamentals as higher market risk predicts greater idiosyncratic earnings volatility and as firm characteristics related to the ability of firms to adjust to higher uncertainty help explain the strength of the relation. Consistent with the view that growth options provide a hedge against macroeconomic uncertainty, we find evidence that the relation is weaker for firms with more growth options.

Suggested Citation

  • Bartram, Sohnke M. & Brown, Gregory W. & Stulz, Rene M., 2016. "Why Does Idiosyncratic Risk Increase with Market Risk?," Working Paper Series 2016-13, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
    • Handle: RePEc:ecl:ohidic:2016-13
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    Cited by:

    1. Saurabh Mishra & Sachin B. Modi & Michael A. Wiles, 2022. "Economic policy uncertainty and shareholder wealth: the role of marketing, operations, and R&D capabilities," Journal of the Academy of Marketing Science, Springer, vol. 50(5), pages 1011-1031, September.
    2. Xiaohong Xian & Xiang Zhang & Zongyi Zhang & Stavros Sindakis & Sakshi Aggarwal, 2024. "Examining the Impact of Idiosyncratic Risk on Corporate Cash Holdings: Evidence from China," Journal of the Knowledge Economy, Springer;Portland International Center for Management of Engineering and Technology (PICMET), vol. 15(2), pages 5151-5173, June.
    3. Bekaert, Geert & Bergbrant, Mikael & Kassa, Haimanot, 2025. "Expected idiosyncratic volatility," Journal of Financial Economics, Elsevier, vol. 167(C).
    4. Zhiyao Chen & Ilya A. Strebulaev & Yuhang Xing & Xiaoyan Zhang, 2021. "Strategic Risk Shifting and the Idiosyncratic Volatility Puzzle: An Empirical Investigation," Management Science, INFORMS, vol. 67(5), pages 2751-2772, May.
    5. Fan, Yaoyao & Boateng, Agyenim & Ly, Kim Cuong & Jiang, Yuxiang, 2021. "Are bonds blind? Board-CEO social networks and firm risk," Journal of Corporate Finance, Elsevier, vol. 68(C).
    6. Matthias Horn, 2023. "The Influence of ESG Ratings On Idiosyncratic Stock Risk: The Unrated, the Good, the Bad, and the Sinners," Schmalenbach Journal of Business Research, Springer, vol. 75(3), pages 415-442, September.

    More about this item

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • 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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