Abstract:

Financial asset-pricing theories aim to explain the returns of financial assets by considering various risk factors. These theories, by nature, need to include some constraints and assumptions. These constraints and assumptions may sometimes not coincide with the functioning of the market mechanism. For this reason, a significant amount of deviations are frequently seen between the observed market prices and the estimates from financial theories. The idiosyncratic risk of the assets as an important source of these deviations is a very hot discussion topic. The argument that idosyncratic risks can be reduced by forming well-diversified portfolios is the focus of this discussion. In this study, we aim to address the potential reasons behind the pricing of non-systematic (idiosyncratic) risks by reviewing the relevant studies in the literature. To that end, in order to better understand the characteristics of non-systematic risks, we first mention some weaknesses of traditional finance theories in our study. Besides, the main reasons behind the idiosyncratic risks and the level of sensitivity of these risks to changes in the market mechanism are evaluated in the light of the previous findings in the related literature. Finally, the suggestions from the literature about how to measure idiosyncratic risks are mentioned. 

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