Asset Growth and Idiosyncratic Return Volatility

Abstract

This paper studies the relationship between asset growth and idiosyncratic stock return volatility. Empirically, in the cross-section, firms' idiosyncratic return volatility has a V-shaped relationship with their asset growth rate. In the time series, dispersion across firms in asset growth rates positively predicts average idiosyncratic volatility. These patterns are consistent with an investment model that features both permanent and transitory shocks to cash flows. In the model, the high return volatility of high and low (negative) growth firms in the cross-section is driven by permanent and transitory shocks to cash flows, respectively. The time series relationship follows from the cross-sectional V-shape pattern.