The Conditional Pricing of Systematic and Idiosyncratic Risk in the UK Equity Market

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Title: The Conditional Pricing of Systematic and Idiosyncratic Risk in the UK Equity Market
Authors: Cotter, John
O'Sullivan, Niall
Rossi, Francesco
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Date: Mar-2014
Abstract: We test whether firm idiosyncratic risk is priced in a large cross-section of U.K. stocks. A distinguishing feature of our paper is that our tests allow for a conditional relationship between systematic risk (beta) and returns in our tests, i.e., conditional on whether the excess market return is positive or negative. We find strong evidence in support of a conditional beta/return relationship which in turn reveals conditionality in the pricing of idiosyncratic risk. We find that idiosyncratic risk is significantly negatively priced in stock returns in down-markets. Although perhaps initially counter-intuitive, we describe the theoretical support for such a finding in the literature. Our results also reveal a strong role for liquidity, size and momentum factors in explaining the cross-section of U.K. stock returns.
Funding Details: Science Foundation Ireland
Type of material: Working Paper
Publisher: University College Dublin. Geary Institute
Series/Report no.: UCD Geary Institute Discussion Paper Series; WP2014/03
Keywords: Asset pricingIdiosyncratic riskTurnoverConditional beta
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Language: en
Status of Item: Not peer reviewed
Appears in Collections:Geary Institute Working Papers

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