The Empirical Research Of The Relation Between The Idiosyncratic Risk And Expected Return On China’s Main-board Market

The classical asset pricing theory assumes that capital markets are efficient and the idiosyncratic risk can be avoided by holding diversified portfolios. One company’s expected return has no relation with his firm-specific, so there’s no need to offset the idiosyncratic risk. However, more and more scholars found that there’s a significant negative relation between idiosyncratic risk of individual stocks and the cross-section of expected returns in these years. This is opposition to the traditional CAPM theory. This phenomenon can not be explained exactly by any financial theory since now. So this phenomenon is regarded as "the idiosyncratic volatility puzzle". In the end of2005, the reform of the shareholder structure in listed companies was basically completed, we use the data after2005to study the listed companies in the two exchanges in China and test the relationship between idiosyncratic volatility and expected returned before and after the securities margin trading is carried. In this paper, the idiosyncratic volatility is estimated by the standard deviation of residuals from the Fama-French three-factor regression model. And then, we utilize the portfolios method, the two-dimensional analysis method as qualitative approach to assure if there’s negative relationship between idiosyncratic volatility and expected returned in China’s capital market. Then use Fama-MacBeth method to insure the quantitative relation. And we find that whenever before or after the securities margin trading is carried, there’s a strongly statistically significant negative relationship between the idiosyncratic volatility and expected return and this phenomenon can not be explained by company size, book value ratio, mobility, ownership concentration. At last, we find that turnover may partly explain this phenomenon with heterogeneous beliefs theory. Experimental investigation shows that the phenomenon of "the idiosyncratic volatility puzzle" exists in China whether there is short-selling mechanism. And this phenomenon can partly be explained by heterogeneous beliefs.