Betting against correlation: Testing theories of the low-risk effect

We test whether the low-risk effect is driven by leverage constraints and, thus, risk should be measured using beta versus behavioral effects and, thus, risk should be measured by idiosyncratic risk. Beta depends on volatility and correlation, with only volatility related to idiosyncratic risk. We i...

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Vydáno v:Journal of financial economics Ročník 135; číslo 3; s. 629 - 652
Hlavní autoři: Asness, Cliff, Frazzini, Andrea, Gormsen, Niels Joachim, Pedersen, Lasse Heje
Médium: Journal Article
Jazyk:angličtina
Vydáno: Amsterdam Elsevier B.V 01.03.2020
Elsevier Sequoia S.A
Témata:
Asset pricing
Behavioral economics
Constraints
Correlation analysis
Economic models
Financial economics
Gambling
Leverage
Leverage constraints
Lottery demand
Margin
Risk
Risk behavior
Risk factors
Sentiment
Theory
Theory of constraints
Lottery demand
Leverage constraints
G02
G12
G15
G14
Asset pricing
Sentiment
Margin
ISSN:0304-405X, 1879-2774
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Shrnutí:We test whether the low-risk effect is driven by leverage constraints and, thus, risk should be measured using beta versus behavioral effects and, thus, risk should be measured by idiosyncratic risk. Beta depends on volatility and correlation, with only volatility related to idiosyncratic risk. We introduce a new betting against correlation (BAC) factor that is particularly suited to differentiate between leverage constraints and behavioral explanations. BAC produces strong performance in the US and internationally, supporting leverage constraint theories. Similarly, we construct the new factor SMAX to isolate lottery demand, which also produces positive returns. Consistent with both leverage and lottery theories contributing to the low-risk effect, we find that BAC is related to margin debt while idiosyncratic risk factors are related to sentiment.
Bibliografie:ObjectType-Article-1
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ISSN:0304-405X
1879-2774
DOI:10.1016/j.jfineco.2019.07.003