The Impact of Unsystematic Risk on Stock Returns in an Emerging Capital Markets (ECM’s) Country: An Empirical Study

Mohamed Masry,Heba El Menshawy

doi:10.5430/ijfr.v9n1p189

Abstract

In this study, we aim to introduce behavior of unsystemayic risk and its forecasting ability in prediction of future return in Egyptian Stock Exchange (ESE) as an Emerging Capital market (ECM), over the period of 2006 to 2015. We measure equally weighted unsystemayic volatility by following the Campbell’s (2001) Indirect Method, by considering market size and weekly basis. Our results reveal that unsystemayic risk is the biggest component of total volatility and show no trend, although market volatility has a slow decreasing trend in this period. We also find that small size stocks have slightly higher volatility than the big size stocks but both portfolios have similar idiosyncratic risk behavior. Finally, our analyses about the predictive ability of various measures of unsystematic risk provide evidence that unsystematic risk volatility is not a significant predictor for future return in ESE.

Highlights

Asset pricing is a central issue in finance
We investigate the relationship between volatility and subsequent stock returns in Egyptian Stock Exchange (ESE), by regressing stock returns on various measures of lagged volatility
The volatility effect appears to be growing stronger over time, which we argue might be related to the increased delegated portfolio management in Emerging Capital Markets (ECM)

Summary

Introduction

Stock prices were considered to be determined by a simple intersection point between demand and supply curves; yet this approach abstracts from numerous features of real markets, including information asymmetries, differing expectations of market participants, the trading setup, and fluctuations in liquidity. Considering that the discipline is relatively new, the majority of publications tended to focus on developed markets such as US and UK ones. The discipline may be further enriched through studies using emerging markets data since one may expect differences between the microstructure effects of stock market trading in emerging economies and those in the industrial economies. As compared with developed stock markets, ECM tends to exhibit: higher serial correlation, less frequent trading, slower adjustment of prices to news, and indirect evidence of more insiders trading (Masry, 2017)

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