TY - JOUR
T1 - Conditional extreme risk, black swan hedging, and asset prices
AU - RHEE, S. Ghon
AU - WU, Feng Harry
N1 - Feng (Harry) Wu gratefully acknowledges financial support from the General Research Fund (GRF) (No. B-Q42A) of the University Grants Committee of Hong Kong. This paper also benefits from the support from GRF No. B-Q50N, Hong Kong Polytechnic University research funds (1-ZE46 and G-YN81), and Lingnan University research funds. Ghon Rhee is grateful for the 2018 Shidler College of Business Summer Research Grant.
PY - 2020/9
Y1 - 2020/9
N2 - Motivated by the asset pricing theory with safety-first preference, we introduce and operationalize a conditional extreme risk (CER) measure to describe expected stock performance conditional on a small-probability market downturn (black swan). We document a significant CER premium in the cross-section of expected returns. We also demonstrate that CER explains the premia to downside beta, coskewness, and cokurtosis. CER provides distinct information regarding black swan hedging that cannot be captured by co-crash-based tail dependence measures. As we find that the pricing effect is stronger among black swan hedging stocks, this distinction helps explain the absence of premium to tail dependence.
AB - Motivated by the asset pricing theory with safety-first preference, we introduce and operationalize a conditional extreme risk (CER) measure to describe expected stock performance conditional on a small-probability market downturn (black swan). We document a significant CER premium in the cross-section of expected returns. We also demonstrate that CER explains the premia to downside beta, coskewness, and cokurtosis. CER provides distinct information regarding black swan hedging that cannot be captured by co-crash-based tail dependence measures. As we find that the pricing effect is stronger among black swan hedging stocks, this distinction helps explain the absence of premium to tail dependence.
KW - Asset pricing
KW - Black swan hedging
KW - Conditional extreme risk
KW - Extreme value theory
KW - Safety-first
UR - http://www.scopus.com/inward/record.url?scp=85088831417&partnerID=8YFLogxK
U2 - 10.1016/j.jempfin.2020.07.002
DO - 10.1016/j.jempfin.2020.07.002
M3 - Journal Article (refereed)
SN - 0927-5398
VL - 58
SP - 412
EP - 435
JO - Journal of Empirical Finance
JF - Journal of Empirical Finance
ER -