Operational Risk and Equity Prices

Abstract:     
We use an empirical model to categorize firms into portfolios based on operational risk. Using these portfolios, we show that a strategy of buying firms in the highest decile of operational risk and shorting firms in the lowest decile of operational risk earned a positive but insignificant risk-adjusted average return of 0.72% per month from 1990 to 2000. However, from 2001 to 2010, the same strategy earned a significantly negative risk-adjusted average return of -1.50% per month. This change occurred during a time characterized by an increasing number of high profile operational losses and regulatory changes surrounding operational risk.

Number of Pages in PDF File: 43

Keywords: Operational risk, stock prices, stock returns

JEL Classification: G10, G12, G30

working papers series