The Relation Between Idiosyncratic Volatility and Returns for U.S. Mutual Funds
(2016) NEKP03 20152Department of Economics
 Abstract
 Theoretically the relation between returns and idiosyncratic volatility should be nonexistent or positive. Many empirical studies confirm this but Ang, Hodrick, Xing and Zhang (2006) contest the conventional view and find a negative relationship for a sample of U.S. firms. I contribute to the field by investigating the relation for a sample of U.S. mutual funds. The sample consist of a total of 10 917 equity mutual funds, the funds are divided in to four different classes depending on equity focus (growth, value, small cap and large cap). Data were collected for the period 1995 to 2015. Ang et al. (2006) relate returns with lagged idiosyncratic volatility making the implicit assumption that idiosyncratic volatility can be described as a... (More)
 Theoretically the relation between returns and idiosyncratic volatility should be nonexistent or positive. Many empirical studies confirm this but Ang, Hodrick, Xing and Zhang (2006) contest the conventional view and find a negative relationship for a sample of U.S. firms. I contribute to the field by investigating the relation for a sample of U.S. mutual funds. The sample consist of a total of 10 917 equity mutual funds, the funds are divided in to four different classes depending on equity focus (growth, value, small cap and large cap). Data were collected for the period 1995 to 2015. Ang et al. (2006) relate returns with lagged idiosyncratic volatility making the implicit assumption that idiosyncratic volatility can be described as a random walk. But as Fu (2009) I find that this is not true and use an AR(2) model to estimate idiosyncratic volatility, inspired by Chua, Choong Tze, Jeremy Goh, and Zhe Zhang (2010). The idiosyncratic volatility is estimated relative to the Carhart (1997) four factor mode and divided in to an expected and unexpected part as in Chua et al. The relation is examined using FamaMacBeth (1973) regressions with both gross return and the Carhart alpha as dependent variables. The results suggest a positive relation only when using the Carhart alpha as dependent variable and all the control variables. Otherwise the results are inconclusive. As an additional robustness test I perform portfolio sorting on EIV without control variables and get results that suggest a negative relation. (Less)
Please use this url to cite or link to this publication:
http://lup.lub.lu.se/studentpapers/record/8522263
 author
 Skogström Lundgren, Kevin ^{LU}
 supervisor

 Frederik Lundtofte ^{LU}
 organization
 course
 NEKP03 20152
 year
 2016
 type
 H2  Master's Degree (Two Years)
 subject
 keywords
 Idiosyncratic volatility, Mutual funds, Carhart fourfactor model, ARIMA model, Carhart fourfactor alpha
 language
 English
 id
 8522263
 date added to LUP
 20160211 14:38:39
 date last changed
 20160211 14:38:39
@misc{8522263, abstract = {Theoretically the relation between returns and idiosyncratic volatility should be nonexistent or positive. Many empirical studies confirm this but Ang, Hodrick, Xing and Zhang (2006) contest the conventional view and find a negative relationship for a sample of U.S. firms. I contribute to the field by investigating the relation for a sample of U.S. mutual funds. The sample consist of a total of 10 917 equity mutual funds, the funds are divided in to four different classes depending on equity focus (growth, value, small cap and large cap). Data were collected for the period 1995 to 2015. Ang et al. (2006) relate returns with lagged idiosyncratic volatility making the implicit assumption that idiosyncratic volatility can be described as a random walk. But as Fu (2009) I find that this is not true and use an AR(2) model to estimate idiosyncratic volatility, inspired by Chua, Choong Tze, Jeremy Goh, and Zhe Zhang (2010). The idiosyncratic volatility is estimated relative to the Carhart (1997) four factor mode and divided in to an expected and unexpected part as in Chua et al. The relation is examined using FamaMacBeth (1973) regressions with both gross return and the Carhart alpha as dependent variables. The results suggest a positive relation only when using the Carhart alpha as dependent variable and all the control variables. Otherwise the results are inconclusive. As an additional robustness test I perform portfolio sorting on EIV without control variables and get results that suggest a negative relation.}, author = {Skogström Lundgren, Kevin}, keyword = {Idiosyncratic volatility,Mutual funds,Carhart fourfactor model,ARIMA model,Carhart fourfactor alpha}, language = {eng}, note = {Student Paper}, title = {The Relation Between Idiosyncratic Volatility and Returns for U.S. Mutual Funds}, year = {2016}, }