{'fraction_non_alphanumeric': 0.015792798483891344, 'fraction_numerical': 0.00505369551484523, 'mean_word_length': 5.6835443037974684, 'pattern_counts': {'":': 0, '<': 0, '<?xml version=': 0, '>': 0, 'https://': 0, 'lorem ipsum': 0, 'www.': 0, 'xml': 0}, 'pii_count': 0, 'substrings_counts': 0, 'word_list_counts': {'cursed_substrings.json': 0, 'profanity_word_list.json': 0, 'sexual_word_list.json': 0, 'zh_pornsignals.json': 0}}
Is Idiosyncratic Volatility Really Priced?

Recent literature has documented both a positive and a negative relation between idiosyncratic risk derived from standard asset pricing models and return. Fu (2009) resolves this debate by explicitly modeling expected as opposed to total idiosyncratic risk and finds a strong positive relation between expected idiosyncratic volatility and returns, suggesting missing systematic risk factors or inefficient markets. We document that this positive relation between idiosyncratic volatility and returns only exists for small firms which are difficult to arbitrage. The relation between idiosyncratic volatility and returns is strong for the smallest quartile of stocks, but decreases with size and becomes non-existent for the largest quartile of firms. Furthermore, portfolios formed on size (as a proxy for the difficulty of arbitrage) and idiosyncratic volatility only yield economically significant Jensen (1968) alphas for small stock portfolios. However, due to the high costs of trading these stocks, zero-cost portfolios based on idiosyncratic volatility and size do not yield significant positive returns when conservative trading costs are considered. This implies that the compensation for bearing idiosyncratic risk is limited to stocks that are difficult to arbitrage and therefore does not suggest missing factors or inefficient markets. The results are robust to alternate measures of idiosyncratic volatility and the difficulty (cost) of arbitrage as well as across time. This evidence is consistent with an efficient market.