Empirical Research Of The Relationship Between Idiosyncratic Risk And Stock Returns

The traditional portfolio theory and CAPM model suggest that stock idiosyncratic risk can be fully diversified by constructing the optimal portfolio,the company’s idiosyncratic risk does not affect the asset’s equilibrium price,only systemic risk affects stock returns,while stock idiosyncratic risk has nothing to do with stock returns.However,due to factors such as transaction costs,information asymmetry,and investor risk preference,investors may not be able to diversify their investment portfolios,and thus have to bear stocks idiosyncratic risk.In this context,Merton(1987)developed an extended model of the CAPM model by presenting an investor recognition hypothesis that investors would only invest in their relatively familiar stocks,so that investors could not hold the decentralized portfolio and bear the corresponding idiosyncratic risk.For the idiosyncratic risk,investors will require a corresponding risk premium,so in the equilibrium state,the stock abnormal return is related to its idiosyncratic risk.In addition,due to investors’ heterogeneous beliefs exist in reality,China’s stock market short-selling serious restrictions and lack of market transparency have a certain impact on the stock return.Miller(1977)argues that,in the absence of short selling,the heterogeneous of investor belief leads to a systematic overvaluation of stock prices,leading to a negative correlation between abnormal returns and investor heterogeneous.In this paper,we use the grouping method to distinguish the impact of heterogeneous beliefs on the relationship between stock idiosyncratic risk and abnormal return rate,because the idiosyncratic risk of stock and investor heterogeneous beliefs have opposite effects on stock abnormal returns.This paper selects the A motherboard market share from 2005 to 2015 for the sample,the sample was divided into three dimensions from the transparency of stock,the heterogeneous beliefs of investors and the idiosyncratic risk,then we use Fama/French(1993)and Carhart(1997)model for empirical research on the relationship between stock market abnormal returns and idiosyncratic risk.The results show that:for low-transparency and low-investor heterogeneous beliefs of the stock portfolio,stock abnormal returns are not significant,this paper argues that the main reasons from two aspects,one is more individual investors in the stock market of our country,the lack of professional knowledge and access to information is relatively limited,the irrational factors,resulting in the idiosyncratic risk does not require the corresponding risk premium.On the other hand,China’s stock market is still relatively short selling restrictions,the information asymmetry between different investors leads investors’heterogeneous beliefs have a negative impact on abnormal returns of stock,and offset the impact of idiosyncratic risk on stock abnormal returns.For the low transparency and high investor heterogeneous beliefs of the stock portfolio,the abnormal return of the stock is significantly negative.Investors’ heterogeneous beliefs cause negative abnormal returns,and there is a significant Miller effect in China’s stock market.In the robustness test,the article uses different stock portfolio return rate weighting method and different idiosyncratic risk measure index and add the liquidity factor on the original model,the empirical results are basically consistent.