Empirical Study On The Premium Of Idiosyncratic Risk In The Segmented Chinese Stock Market

Modern asset pricing theory since its inception has been enduring improvement from various theories from different aspect. One of the improvement is the study on idiosyncratic risk. Capital Asset Pricing Model (CAPM) and Arbitrage Pricing Model (APT) both divide risk into systematic risk and non-systematic risk (that is, idiosyncratic risk). Non-systematic risk can be diversified by highly diversified portfolio, so that the market will not pay risk premium for it and that only systematic risk is compensated. However, Merton (1987) proposed that because of various reasons a large number of investors can only hold a small amount of stock, so that non-systematic risk can not be fully diversified. In this case, investors will not only ask for risk premium for systematic risk but also for non-systematic risk. Recent studies have found that in countries such as the United States the higher the idiosyncratic risk the lower the expected returns of stock. The significance of the study on idiosyncratic risk is to further explore the factors related to asset pricing. The lasting pricing difference between A, B and H-shares has already attracted much attention. However, those studies all focus on the pricing discount, while the lack of the pricing difference of idiosyncratic risk. In this paper, the standard deviation of the residual of Fama and French (1993) three factor model is used to measure idiosyncratic volatility, and for the first time idiosyncratic risk premium is studied so as to solve the problem that when the overall volatility of the market changes, relative risk is priced instead of absolute risk. The companies listed on A, B, H markets are all companies in China. Besides the investors in three markets are gradually changing. We focus on the pricing difference of idiosyncratic risk among these three markets. The results are as follows: (1) When the holding period is one month, the idiosyncratic risk premium among three markets are interacting to a certain extent. (2) When the holding period changes, the relative level of idiosyncratic risk premium among the three markets changes. (3)The overall level of market risk as well as the overall level of market liquidity are two factors related to idiosyncratic risk premium, and the relation between them still needs further study.