An Empirical Study of the Relationship between the Idiosyncratic Volatility and Cross-sectional Return

We confirm that the negative relation between lagged idiosyncratic volatility an d future average returns cannot be explained by exposure to various cross-secti onal risk factors and market frictions such as illiquidity, trading cost and pri ce delay. Different from studies in US stock markets, we find that the negative relation is stronger with equal-weighted idiosyncratic volatility quintile port folios than value weighted portfolios. We also find that the abnormal low future returns with high past idiosyncratic volatility is not significant after contro lling for turnover effect in Chinese stock market. We propose that short sale co nstraints and retail investors dominating trading in Chinese stock market can he lp to explain the differences.