EconPapers    
Economics at your fingertips  
 

Arbitrage Pricing Theory for Idiosyncratic Variance Factors*

Eric Renault, Thijs Van Der and Bas J M Werker

Journal of Financial Econometrics, 2023, vol. 21, issue 5, 1403-1442

Abstract: We develop an arbitrage pricing theory framework extension to study the pricing of squared returns/volatilities. We analyze the interplay between factors at the return level and those in idiosyncratic variances. We confirm the presence of a common idiosyncratic variance factor, but do not find evidence that this represents a missing risk factor at the (linear) return level. Thereby, we consistently identify idiosyncratic returns. The price of the idiosyncratic variance factor identified by squared returns is small relative to the price of market variance risk. The quadratic pricing kernels induced by our model are in line with standard economic intuition.

Keywords: arbitrage pricing theory; common volatility factors; nonlinear pricing kernels; option prices (search for similar items in EconPapers)
JEL-codes: C58 G12 (search for similar items in EconPapers)
Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
http://hdl.handle.net/10.1093/jjfinec/nbac008 (application/pdf)
Access to full text is restricted to subscribers.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:oup:jfinec:v:21:y:2023:i:5:p:1403-1442.

Ordering information: This journal article can be ordered from
https://academic.oup.com/journals

Access Statistics for this article

Journal of Financial Econometrics is currently edited by Allan Timmermann and Fabio Trojani

More articles in Journal of Financial Econometrics from Oxford University Press Oxford University Press, Great Clarendon Street, Oxford OX2 6DP, UK. Contact information at EDIRC.
Bibliographic data for series maintained by Oxford University Press ().

 
Page updated 2025-03-19
Handle: RePEc:oup:jfinec:v:21:y:2023:i:5:p:1403-1442.