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RFS Advance Access originally published online on February 21, 2006
Review of Financial Studies 2006 19(4):1241-1277; doi:10.1093/rfs/hhj027
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© The Author 2006. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For permissions, please email: journals.permissions@oxfordjournals.org.

The Impact of Trades on Daily Volatility

Doron Avramov
R. H. Smith School of Business, University of Maryland

Tarun Chordia
Goizueta Business School, Emory University

Amit Goyal
Goizueta Business School, Emory University

Address Correspondence to Amit Goyal, Goizuela Business School, Emory University, 1300 Clifton Rd., Atlanda, GA 30322, or email amit_goyal{at}bus.emory.

This article proposes a trading-based explanation for the asymmetric effect in daily volatility of individual stock returns. Previous studies propose two major hypotheses for this phenomenon: leverage effect and time-varying expected returns. However, leverage has no impact on asymmetric volatility at the daily frequency and, moreover, we observe asymmetric volatility for stocks with no leverage. Also, expected returns may vary with the business cycle, that is, at a lower than daily frequency. Trading activity of contrarian and herding investors has a robust effect on the relationship between daily volatility and lagged return. Consistent with the predictions of the rational expectation models, the non-informational liquidity-driven (herding) trades increase volatility following stock price declines, and the informed (contrarian) trades reduce volatility following stock price increases. The results are robust to different measures of volatility and trading activity. (JEL C30, G11, G12)


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