Abstract
This paper introduces a new tail-risk measure based on the risk-neutral excess expected shortfall of a cross-section of stock returns. We propose a novel way to risk neutralize the returns without relying on option price information. Empirically, we illustrate our methodology by estimating a tail-risk measure over a long historical period based on a set of size and book-to-market portfolios. We find that a risk premium is associated with long-short strategies with portfolio sorts based on tail-risk sensitivities of individual securities. Our tail-risk index also provides meaningful information about future market returns and aggregate macroeconomic conditions. Results are robust to the cross-sectional information and other parameters selected to compute the tail-risk measure.
Original language | English (US) |
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Pages (from-to) | 333-376 |
Number of pages | 44 |
Journal | Journal of Financial Econometrics |
Volume | 15 |
Issue number | 3 |
DOIs | |
State | Published - Jun 1 2017 |
Externally published | Yes |
All Science Journal Classification (ASJC) codes
- Finance
- Economics and Econometrics
Keywords
- Economic predictability
- Prediction of market returns
- Risk factor
- Risk-neutral probability
- Tail risk