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Risk, Uncertainty, and Expected Returns

Published online by Cambridge University Press:  29 July 2016

Turan G. Bali  and
Hao Zhou
Turan G. Bali
Affiliation:
tgb27@georgetown.edu, Georgetown University, McDonough School of Business, Washington, DC20057
Hao Zhou*
Affiliation:
zhouh@pbcsf.tsinghua.edu.cn, Tsinghua University, PBC School of Finance, Beijing100083, PR China.
*
*Corresponding author: zhouh@pbcsf.tsinghua.edu.cn
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Abstract

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A conditional asset pricing model with risk and uncertainty implies that the time-varying exposures of equity portfolios to the market and uncertainty factors carry positive risk premia. The empirical results from the size, book-to-market, momentum, and industry portfolios indicate that the conditional covariances of equity portfolios with market and uncertainty predict the time-series and cross-sectional variation in stock returns. We find that equity portfolios that are highly correlated with economic uncertainty proxied by the variance risk premium (VRP) carry a significant annualized 8% premium relative to portfolios that are minimally correlated with VRP.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 51 , Issue 3 , June 2016 , pp. 707 - 735
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2016 

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