Working Paper: NBER ID: w11824
Authors: Andrew Ang; Joseph Chen; Yuhang Xing
Abstract: Economists have long recognized that investors care differently about downside losses versus upside gains. Agents who place greater weight on downside risk demand additional compensation for holding stocks with high sensitivities to downside market movements. We show that the cross-section of stock returns reflects a premium for downside risk. Specifically, stocks that covary strongly with the market when the market declines have high average returns. We estimate that the downside risk premium is approximately 6% per annum. The reward for bearing downside risk is not simply compensation for regular market beta, nor is it explained by coskewness or liquidity risk, or size, book-to-market, and momentum characteristics.
Keywords: No keywords provided
JEL Codes: C12; C15; C32; G12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| high downside beta (C46) | increased average returns (G11) |
| high past downside beta (C46) | high future returns (G17) |
| downside risk premium (D81) | compensation for regular market beta (C46) |
| downside risk premium (D81) | coskewness, liquidity risk, or size/book-to-market characteristics (C10) |