I develop a real options model showing that high idiosyncratic volatility lowers conditional betas of growth options and their exposure to aggregate volatility risk. I predict and find that the idiosyncratic volatility discount is much stronger for growth firms and is absent for value firms. I show empirically that the exposure to the aggregate volatility risk completely explains the idiosyncratic volatility discount and the stronger idiosyncratic volatility discount for growth firms. Aggregate volatility risk also partly explains the stronger value effect for high volatility firms. I also find that high volatility, growth, and especially high volatility growth firms have much lower betas in recessions.

I show that the aggregate volatility risk factor (BVIX factor) explains the well-known underperformance of small growth firms. The BVIX factor also reduces the underperformance of IPOs and SEOs by 45\% and makes it statistically insignificant. The BVIX factor is unrelated to the investment factor proposed by Lyandres, Sun, and Zhang (2007) and has similar explanatory power. The BVIX factor is more helpful than the investment factor in explaining stronger new issues underperformance for small firms and growth firms. The investment factor is better at capturing the change in the underperformance in event time. The BVIX factor is also successful in explaining low returns to high cumulative issuance firms and the stronger cumulative issuance puzzle for growth firms.