Volatility Risks and Growth Options

Hengjie Ai () and Dana Kiku ()
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Hengjie Ai: Carlson School of Management, University of Minnesota, Minneapolis, Minnesota 55455
Dana Kiku: University of Illinois at Urbana–Champaign, Champaign, Illinois 61820

Management Science, 2016, vol. 62, issue 3, 741-763

Abstract: We propose to measure growth opportunities by firms’ exposure to idiosyncratic volatility news. Theoretically, we show that the value of a growth option increases in idiosyncratic volatility but its response to volatility of aggregate shocks can be either positive or negative depending on option moneyness. Empirically, we show that price sensitivity to variation in idiosyncratic volatility carries significant information about firms’ future investment and growth even after controlling for conventional proxies of growth options such as book-to-market and other relevant firm characteristics. Consistent with our theoretical arguments, we also find that firm’ exposure to aggregate volatility, while priced, does not help predict their future growth. Option-intensive firms identified using our idiosyncratic volatility-based measure earn a lower premium than do firms that rely more heavily on assets in place. This paper was accepted by Jerome Detemple, finance.

Keywords: growth options; idiosyncratic volatility; finance; asset pricing (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (8)

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