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The Cross-Sectional Dispersion of Stock Returns, Alpha and the Information Ratio

37 Pages Posted: 6 Aug 2009 Last revised: 9 Feb 2010

Larry R. Gorman

California Polytechnic State University

Steven G. Sapra

Analytic Investors, Inc.; Claremont Graduate University

Robert A. Weigand

Washburn University School of Business

Date Written: January 21, 2010

Abstract

Both the cross-sectional dispersion of U.S. stock returns and the VIX provide forecasts of alpha dispersion across high- and low-performing portfolios of stocks that are statistically and economically significant. These findings suggest that absolute return investors can use cross-sectional dispersion and time-series volatility as signals to improve the tactical timing of their alpha-focused strategies. Because active risk increases by a greater amount than alpha, however, high return dispersion/high VIX periods are followed by slightly lower information ratio dispersion. Therefore, relative return investors who keep score in an information ratio framework are unlikely to find return dispersion useful as a signal regarding when to increase or decrease the activeness of their portfolio strategies.

Keywords: Alpha, Information Ratio, Cross-Sectional Dispersion, Volatility, VIX

JEL Classification: G11, G17

Suggested Citation

Gorman, Larry R. and Sapra, Steven G. and Weigand, Robert A., The Cross-Sectional Dispersion of Stock Returns, Alpha and the Information Ratio (January 21, 2010). Journal of Investing, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1444868

Larry Gorman

California Polytechnic State University ( email )

College of Business
Department of Finance
San Luis Obispo, CA 93407
United States
805-756-1312 (Phone)
805-756-1473 (Fax)

Steven Sapra (Contact Author)

Analytic Investors, Inc. ( email )

555 W. 5th St.
50th Floor
Los Angeles, CA 90013
United States
213-688-3015 (Phone)
213-688-8856 (Fax)

HOME PAGE: http://www.analyticinvestors.com

Claremont Graduate University ( email )

150 E. Tenth Street
Claremont, CA 91711
United States

Robert A. Weigand

Washburn University School of Business ( email )

Topeka, KS
United States

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