Asymmetric volatility and conditional expected returns

Abstract

PurposeThe risk-return relationship is one of the most widely investigated topics in finance, yet this relationship remains one of the most controversial topics. The purpose of this paper is to investigate the asymmetric volatility and the risk-return tradeoff at the sector level in the emerging stock market of Jordan.Design/methodology/approachData consist of daily prices for 22 sub-sectors spanning from August 1, 2006, to September 30, 2015, covering the periods of pre, during, and after the global financial crisis. The EGARCH-M model is used to document the patterns of asymmetric volatility of sub-sector returns and the risk-return tradeoff during the non-overlapping three sub-sample periods.FindingsThe major findings of this study are as follows. In the pre-crisis period, the results suggest some evidence of a positive relationship between risk and return. The results also reveal that good news has more effect than bad news during the same period. In the crisis period, there is a negative but insignificant risk-return relationship and negative shocks have more impact than positive ones. In the post-crisis period, the authors find positive but insignificant risk-return tradeoff with weak evidence of volatility asymmetry.Practical implicationsThe results have major implications for investors willing to engage their investment decisions in the Amman Stock Exchange (ASE) and for policymakers who seek to attract and retain regional and international investors. Since the empirical investigation is conducted at the sector level, the study may aid investors to target specific sub-sectors with positive and significant risk-return tradeoff. In addition, investors need to monitor the asymmetric patterns which make the level of risk-aversion more susceptible to coming news. For policymakers, the latest infrastructure reforms are crucial to achieving the potential for growth but the ASE market authority needs to undergo further reforms and provide various promotional incentives.Originality/valueAlthough there are numerous studies on asymmetric volatility and risk-return tradeoff, there is a lack of parallel studies at the sector level for both developed and emerging stock markets. Such assessment at the sector level is crucial for international investors after their choice of countries or markets for better choice of portfolio diversification and allocation of financial resources.