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Published: 2020-09-25


Asisst. Prof. Dr., İstanbul Aydın University
Financial markets volatility corporate governance risk


The concept of volatility refers to the fluctuations in the price of a financial instrument or an index in a given period. The high volatility in financial markets means the expansion of the lower and upper-value range of the asset price. The presence of volatility is indicative of the risk of that asset, as it makes the predictability of the future price of the asset difficult.
Various economic, political and social factors in the markets lead to increased volatility (Karcıoğlu & Özer, 2017). At the firm level, some factors related to the financial structure and debt risk of the firm also affect stock volatility. This issue has been the subject of several studies in the literature (Sheikh & Wang, 2011; Ahmed & Hla, 2018; Aharon & Yagil, 2019).
Besides all these, effective management of firm risk is also related to the governance quality of the firm. In particular, the developments after the 2008 crisis caused corporate governance and early detection of risk and risk management to be handled together (Yaşar, 2016; Erdoğan, 2019). In this framework, this study focused on the impact of both firm risk and corporate governance practices on stock volatility.
The purpose of this study is to analyze the effect of firm risk and governance quality on stock volatility. Theoretically, well-governed firms are expected to both manage risks better and be less affected by market fluctuations. This study aims to reveal this through econometric analysis.
This study is the first empirical research to analyze the effect of company risk and governance quality on stock volatility according to Parkinson's (1980) model, which aims to detect unobserved volatility. In this respect, it is aimed to contribute to the literature in terms of applying the Parkinson's model to risk and governance areas at the firm level by econometric analysis. Also, the study has proposed a new model for determining governance quality, based on continuity in corporate governance. In this regard, the study is expected to fill an essential gap in the literature.
Quantitative research technique was used in the study. The effect of firm risk and governance quality on stock volatility was examined with two econometric models established, and panel data analysis was chosen as the method.
The research focuses on two main problems. The first is whether firms that have high debt risk and which place more weight on external resources in their capital structures have higher stock volatility. The second issue is determining the effect of governance quality on stock volatility.
The research covers 64 non-financial companies whose shares were continuously traded on Borsa Istanbul between 2008 and 2017. In the research, three different data types are used: stock price data, governance quality data and financial statement data. These data were collected from Borsa Istanbul (BIST), Public Disclosure Platform (KAP) and Corporate Governance Association of Turkey (TKYD). All these data used in the research has available to the public, investors and researchers. No extra information was requested from companies or other institutions.

Because the research involves time and horizontal cross-section dimensions, panel data analysis method was preferred. The following factors were also influential in choosing this method:
a) The data set covers ten years, including 2008, when the global financial crisis occurred. Since panel data analysis also takes into account changes over time, it allows both the crisis and post-crisis period to be handled together.
b) The research includes companies of different sizes from various sectors. Panel data analysis helps control the heterogeneity between units, thus preventing biased results (Baltagi, 2005).
c) Panel data analysis is more suitable for investigating the dynamics of change since it deals with repeated cross-sectional observations (Tarı, 2014).
In this research, STATA 14 and EVIEWS 9 programs were used for panel data analysis.
The econometric models established for the research are as follows:
Model 1:
〖PRK〗_it= β_0+ 〖β_1 KYE〗_it+ 〖β_2 RISK〗_it+ 〖β_3 lnBUY〗_it+ 〖β_4 AKO〗_it+ ε_it

Model 2:
〖PRK〗_it= β_0+〖β_1 KYK〗_it+ 〖β_2 RISK〗_it+ 〖β_3 lnBUY〗_it+ 〖β_4 AKO〗_it+ ε_it

In the models, "i" represents the firms and "t" the years (between 2008 and 2017).
The stock volatility, which is the dependent variable of the study, was calculated based on the volatility model that was first proposed by Parkinson (1980), which assumes that asset prices follow the Brownian motion. There are two independent variables in the research, and the first one is the firm risk. Governance quality, the second independent variable, was calculated in two different ways and took place in separate models. By the literature, firm size and return on assets (ROA) were added to the models as control variables. Levin, Lin and Chu (LLC) Test, Honda Test and Hausman Test were applied regarding the panel data assumptions before panel data analysis.
In line with the model mentioned above, the main hypotheses of the research are as follows:
H1: Firm risk has an impact on stock volatility.
H2: Governance quality has an impact on stock volatility.
According to panel data regression analysis results, it was found that firm risk had a statistically positive effect on stock volatility in both models.
Another critical finding obtained from the research is that the governance quality of firms was found to affect stock volatility. In Model 1, the firms in the corporate governance index were determined to be less volatile than firms not included in the index. In Model 2, continuity in governance quality was included as an independent variable, and in this model, governance was found to affect volatility negatively.
Based on the research findings, both hypotheses have been accepted. Accordingly, both firm risk (H1 hypothesis) and governance quality (H2 hypothesis) have an impact on stock volatility.

Since stock volatility is calculated according to the Parkinson model in the study, it differs from the studies in the literature. However, the finding that the firm risk obtained in this study increases volatility supports the results of the study found by Aharon and Yagil (2019), which calculates volatility by different methods.
As for the impact of governance quality on volatility, the findings of this research are mostly consistent with the results obtained by Lee, Hooy and Taib (2019). The results of the research also support the findings found by Bayraktaroğlu and Çelik (2015), Şahin, Öncü, and Sakarya (2015) and Güleç, Cergibozan and Çevik (2018). However, it should be noted that those studies were conducted on an index basis, not on a firm level, and volatility measurement methods were different from this study.
Volatility in stock prices is caused by many factors such as economic, social and political developments and trends in the financial markets. A firm cannot change, manage, direct or control all of these. However, there are also several financial and managerial factors affecting stock volatility at the firm level. In this study, firm risk and governance quality, which are among these factors at the firm level, were examined. Research results show that firms with high debt risk have higher stock volatility than in other firms. In another finding, it was found that the high quality of governance reduces stock volatility.
The results of this research provide various suggestions and different perspectives to companies, regulatory bodies and investors.
Although debt risk and governance quality are analyzed as separate variables in this study, it is suggested that it should also be taken into consideration that they may be interrelated. In this context, it can be said that companies that include corporate governance principles in their business processes manage the risks better and are less affected by volatility. Governance and risk management are handled together in corporate governance codes and legislation in many countries. In this respect, it is recommended that governance quality should not be considered as an abstract concept involving only organizational processes.
The most important limitation of the study is that it only covers companies in Turkey. Thus, the results should not be generalized. Future research applying this method for more than one country may provide more substantial evidence of causality behind this approach.


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