Time horizon trading and the idiosyncratic risk puzzle Articles uri icon

publication date

  • February 2015

start page

  • 1

end page

  • 17

international standard serial number (ISSN)

  • 1469-7688

electronic international standard serial number (EISSN)

  • 1469-7696

abstract

  • We analyse whether the idiosyncratic risk puzzle reported by Ang et al. can be explained by the existence of market participants with different investment horizons. We adopt a wavelet multiresolution analysis to decompose the returns distribution for different time scales. Our approach divides the nonlinear link between expected returns and idiosyncratic risk into two linear relationships, a positive one for long-run investors and a negative one for short-run investors, indicating that the puzzle disappears as the wavelet scale increases (long-term horizons). Our results are robust to several types of wavelets, to different definitions of short-term investors and to various measures of idiosyncratic risk.

keywords

  • asset pricing; systematic risk;wavelets;time-scaling risk