Variance premium, downside risk and expected stock returns / by Bruno Feunou ... [et al.].: FB3-5/2017-58E-PDF

"We decompose total variance into its bad and good components and measure the premia associated with their fluctuations using stock and option data from a large cross-section of firms. The total variance risk premium (VRP) represents the premium paid to insure against fluctuations in bad variance (called bad VRP), net of the premium received to compensate for fluctuations in good variance (called good VRP). Bad VRP provides a direct assessment of the degree to which asset downside risk may become extreme, while good VRP proxies for the degree to which asset upside potential may shrink. We find that bad VRP is important economically; in the cross-section, a one-standard-deviation increase is associated with an increase of up to 13% in annualized expected excess returns. Simultaneously going long on stocks with high bad VRP and short on stocks with low bad VRP yields an annualized risk-adjusted expected excess return of 18%. This result remains significant in double-sort strategies and cross-sectional regressions controlling for a host of firm characteristics and exposures to regular and downside risk factors"--Abstract, p. ii.

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Publication information
Department/Agency Bank of Canada.
Title Variance premium, downside risk and expected stock returns / by Bruno Feunou ... [et al.].
Series title Bank of Canada staff working paper, 1701-9397 ; 2017-58
Publication type Series - View Master Record
Language [English]
Format Electronic
Electronic document
Note(s) "December 2017."
Includes bibliographical references.
Text in English, abstract in English and French.
Publishing information Ottawa : Bank of Canada, 2017.
Author / Contributor Feunou, Bruno.
Description ii, 45 p. : graphs
Catalogue number
  • FB3-5/2017-58E-PDF
Subject terms Banks
Stock markets
Risk management
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