Betting against Beta or Demand for Lottery?
Turan G. Bali
Georgetown University - Robert Emmett McDonough School of Business
New York University (NYU) - Leonard N. Stern School of Business
University of Nebraska - Lincoln
Fordham University - School of Business
Georgetown McDonough School of Business Research Paper No. 2408146
The low (high) abnormal returns of stocks with high (low) beta is the most persistent anomaly in empirical asset pricing research. A recent study attributes this betting against beta phenomenon to funding liquidity risk. We provide evidence of an alternative explanation. Portfolio and regression analyses show that the betting against beta phenomenon disappears after controlling for what we find to be persistent lottery characteristics of the stocks in our sample, while other measures of firm characteristics and risk fail to explain the effect. Furthermore, the betting against beta phenomenon only exists when the price impact of lottery demand falls disproportionately on high-beta stocks. We also demonstrate that the betting against beta effect occurs only in stocks with low levels of institutional ownership, a finding consistent with the lottery-demand explanation but less easily explained by funding liquidity. Factor models that include our lottery demand factor explain the abnormal returns associated with betting against beta. Finally, we show that this behavioral characteristic is an overlay on the standard risk/reward tradeoff. Controlling for lottery demand, the implied security market line has a significantly positive slope insignificantly different from the contemporaneous market risk premium.
Number of Pages in PDF File: 105
Keywords: Beta, Betting Against Beta, Lottery Demand, Stock Returns, Funding Liquidity
Date posted: March 13, 2014 ; Last revised: June 5, 2015
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